| Retirement Income Challenges |
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It's important that you have a working knowledge of possible retirement traps and risks. Most retirees focus on financial risks, more than other types, when working with their advisors.1 However, you should consider all types of risk that could significantly impact your retirement lifestyle.
Timing of Returns
Early losses in retirement can undermine long-term planning. The impact of taking withdrawals during a bear market can have irreversible effects on the longevity of your assets. Conversely, beginning your retirement during a bull market can help offset withdrawal amounts simply because investments will rise given favorable market conditions.
The chart above shows the results of early losses of -15% in Year 1, -10% in Year 2, and -5% in Year 3 versus losses of -15% in Year 28, -10% in Year 29, and -5% in Year 30. The hypothetical example assumes a $500,000 initial balance and $25,000 annual withdrawals. Withdrawals are adjusted each year by 3% for inflation. This hypothetical investment assumes an annual 6.3% rate of return in each year that the account does not have losses and does not take into account taxes. This example is for illustrative purposes only and does not represent the performance of an actual investment. There is no assurance that similar returns will be achieved. Source: New York Life Investment Management, May, 2006.
Rate and Nature of Withdrawals
If you withdraw too much too soon from your assets, you run the risk of running out of money long-term. Just a 1% difference in withdrawal rate can have a huge impact on how quickly the assets are depleted. Liquidating assets in a tax-efficient way can preserve them a bit longer because you generally pay lower taxes on transactions resulting in capital gains than ordinary income. Naturally, you need to balance such choices with the need for an allocation to equities to provide growth potential for certain assets. The timing of your withdrawals can make a big difference in the long run, as well.
Impact of Withdrawals
The chart above shows the results of withdrawing different inflation-adjusted amounts each year. The hypothetical example assumes a $500,000 balance and a portfolio comprised of 50% stocks, 40% bonds, and 10% cash. Each withdrawal rate is adjusted for inflation by 3% per year. Rates are based on a hypothetical return rate of 6.3% derived from 8% for stocks, 5% for bonds, and 3% for cash. This example is for illustrative purposes only and does not represent the performance of an actual investment. There is no assurance that similar returns will be achieved. Source: New York Life Investment Management, May, 2006.
Longevity
Living to a ripe old age may be great, but if you only plan financially to cover your average life expectancy, you could ultimately outlive your assets. You can reduce this risk by overestimating your life expectancy. The chart below illustrates the probability of a retiree living to various ages. For example, a 65-year-old male has a 75% probability of living to age 78, and a 50% and 25% likelihood of living to age 85 and 91, respectively.
Inflation
Rising consumer prices will erode both your purchasing power and the return on your investments. The chart below shows how 3% annual inflation can double your living expenses over a 25-year period. You can see why it's important to adjust portfolio and income plans for inflation. You might also consider cost-of-living increase options/riders on existing annuities or life insurance policies.
Effects of Inflation
The hypothetical example above is for illustrative purposes only and assumes a 3% annual rate of inflation (the U.S. historical average over the past 75 years) and annual retirement expenses of $50,000 at the start of retirement. Source: New York Life Investment Management, May, 2006.
Healthcare Costs
Healthcare costs are high and are rising faster than other costs. Research has shown that three out of four retirees are concerned about paying healthcare expenses not covered by Medicare/Medicaid.2 In addition, employer-provided medical benefits for pre-retirees and retirees have been steadily decreasing over the past decade.3 In light of these trends, you should be prepared to set aside sufficient resources to pay for the rising cost of medical care and prescription drugs.
Rising Healthcare Costs
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