Retirement is a time of adjustment and change. Some retirees may ditch the alarm clock. Others say they’re busier in retirement than they were in their working years. Either way, retirees tend to change the way they spend their time.
There may also be a psychological adjustment when it comes to finances, as you shift from earning a paycheck and accumulating assets to spending those funds in retirement. This fundamental change in your approach to money can be a bit overwhelming for some retirees.
When you're in retirement, your approach to managing money is different from your approach when you’re saving for retirement,” says Matt Sadowsky, director of retirement and annuities with TD Ameritrade.
Here are four principles to consider as you step over the threshold into retirement. (Keep in mind that it may not be a linear process.)
1. Mindset Shift: From Saving to Drawing Down
For years you’ve been saving and building up your nest egg. Now it may be time to start drawing down your savings to make ends meet.
“Dividends and interest might not be enough to pay bills,” Sadowsky said. Unless you have low living expenses or sizable wealth stored up, you'll likely need to draw down your assets to pay bills and maintain your standard of living. And that may be just fine.
“You need to change your accumulation mindset when entering retirement,” Sadowsky said. “It’s OK to spend down, although it’s not always a comfortable change after decades of practiced behavior of saving and growing your nest egg. If you have a plan in place, you’ll feel better."
2. Play Defense
Defend your nest egg against risk to make it last as long as possible. One of the big risks—longevity—is kind of a double-edged sword. Living a long, healthy life in retirement is something we all strive to achieve, but longevity also means that you might outlive your savings. A long life is good, but running out of money isn’t.
According to Sadowsky, you shouldn’t plan for the average life expectancy. “Half of the time you’re going to be wrong,” he said. Instead, plan for the possibility of a longer than normal retirement.
Remember that there are also black swan market events that, by definition, can’t be anticipated.
Some retirees seek guaranteed lifetime income, such as an annuity, to add to their Social Security benefit. This can help protect against market risk, especially in the early years of retirement.
3. Prioritize and Optimize Four Objectives
A tricky part of retirement planning is knowing how to optimize four key retirement objectives when you don't know exactly how long you’ll live.
- Income: Getting the most income to meet all of your desired expenses (and fully enjoy your retirement to the utmost)
- Longevity: Making your cash flow last for as long as you live—and be enough to live well.
- Legacy: Leaving something for the next generation.
- Liquidity: Having access to your funds whenever you need them, and not paying a penalty if you do access them.
Of course, there are trade-offs among these four objectives. For example, the more of your assets you spend during your retirement, the less you’ll have for the next generation. But setting funds aside for the next generation, perhaps by placing assets in a trust, might inhibit your liquidity.
4. Strategic Asset Allocation
Finally, consider the order in which you'll access your assets once you're retired. Will you tap taxable accounts first (e.g., your brokerage account)? Your tax-deferred retirement accounts? Or some combination of the two? You don't necessarily have to use your IRA or employer retirement plan as your primary account for withdrawing funds. Depending on your situation, it may make sense to draw more from your taxable accounts first because the amount lost to taxes may be less.
The goal is to minimize your tax bill each year to help your nest egg last longer. The less you pay in taxes, more of your money keeps working for you.
Again, retirement is a time of change and adjustment. But if you can shift your mindset and take a principled approach to finances in retirement, you may be able to embrace the change.
Regardless of your age, saving for retirement should be a priority in your overall financial plan. How much do you need to save to reach your retirement savings goal?