Managing Your Retirement Plan
Once you have implemented your retirement plan, it’s important that you are able to monitor and make adjustments to it as needed. Making adjustments to your plan and managing your retirement is arguably the most important aspect of a financially sound retirement plan. After all, a plan is just a blueprint based on a number of assumptions and projections that change on a constant basis. In this article, I am going to share some of the most important items for managing your retirement plan that you will want to evaluate, and when you should do so.
Beginning of the Year
Many people look at the new year as a time to reflect and make positive changes – look no further than your crowded gym in January! It’s also an important time to revisit how you are managing your retirement plan.
First, take a look at the most pressing need – how to address your cash flow shortfalls. If you have been reading my previous posts around preparing for retirement, you should have a cash flow projection for the current year that shows your total outflows: living expenses, liabilities, insurance premiums, and projected tax liabilities. Compare this number with your total cash inflows: Any employment, Social Security, pension, annuity or rental income. The difference between total outflows and inflows is your cash flow deficit that you need to make up.
Your next order of business for managing your retirement plan is to determine which accounts or combination of accounts your funds should come from. This is where tax planning becomes extremely valuable. Let’s assume that your fixed income sources place you in a 12% Federal Marginal Tax Bracket (FMTB) in the current tax year and your cash flow deficit is $50,000. If you took the entire amount from your IRA, it would be treated as ordinary income and could possibly push you into the next Federal Marginal Tax Bracket (FMTB), which is 22%. If instead, you decided to make your distribution from a taxable account, you may be able to limit capital gain exposure, keeping your income low. In that case, a Roth Conversion strategy for the current year could help by allowing you to convert tax-deferred funds to tax-free funds at the lower tax rate of 12% as seen below.
If you know that you’ll be in the same or higher tax bracket in future years, this strategy can help to equalize your tax liability when managing your retirement plan. Remember that once you reach age 70 ½, Social Security income and RMD’s from qualified accounts must be taken, often increasing tax liabilities in your later retirement years. Generally speaking, it’s best to draw from taxable accounts first, tax-deferred accounts second and finally tax-free accounts like Roths, but this sequence of withdrawals should be revaluated each year, contingent upon your financial resources and suitability of the strategy as it applies to your financial situation.
Once you have determined where the funds will come from, set up a systematic withdrawal. Most of my clients prefer a monthly or quarterly withdrawal period, but this decision is entirely up to you. One thing to note – if you or your spouse are above the age of 70 ½ and need to take RMDs, make sure these amounts are included as part of your total annual income need. Lastly, if any spouse is still working, you have until April 15th to make any retirement contributions to either help defer some tax or add after-tax funds to a Roth to take advantage of future tax-free growth. Remember, you must have enough employment income to be eligible to make contributions.
Throughout the Year
During the course of the year, we all experience unexpected events and circumstances that affect our lives, thereby impacting our financial situation. One primary concern for most retirees when managing your retirement plan is declining health. It goes without saying that when these events arise, it’s important to reevaluate your plan and ensure you are making the necessary adjustments. However, in addition to adjusting your plan to account for the unexpected, there are some other housekeeping items that you need to pay attention to throughout the year. Depending on your investment management strategy, you will need to rebalance your investment portfolio occasionally. There are many types of different rebalancing strategies, but two of the most commonly used methods are calendar rebalancing, which simply seeks to rebalance the portfolio at predetermined time periods such as once a year, and tolerance-band rebalancing, which assigns percentage weightings for each asset class along with upper and lower limits that would trigger a rebalance of that asset class. No matter which strategy you choose for managing your retirement, you will need to tend to your portfolio and make the necessary adjustments so that your risk exposure does not increase over time. Stocks will typically appreciate at a faster rate than bonds through longer time horizons. Over time, this causes stocks to represent a higher weighting in your portfolio, thereby increasing the amount of risk you are taking on. Another major benefit of this strategy is that you are typically buying low and selling high in the long-run through a disciplined strategy that helps take emotions out of the process.
Another strategy that I discussed in my previous article, “Selecting The Right Investment Strategy In Retirement” is employing a tax-loss harvesting strategy. This strategy goes hand-in-hand with your rebalancing strategy – when there is market volatility, the values of the different asset classes in your portfolio can change significantly. Some positions will decline in value, creating an unrealized loss also known as a paper loss. Selling the position to realize a loss will allow you to use the loss against any investment gains in the current year and any unused losses can be carried forward indefinitely. It’s important to have a well-thought-out strategy when executing your portfolio management techniques. For example, you need to establish certain parameters to ensure you aren’t constantly turning over the portfolio, creating exorbitant trading costs or subjecting yourself to the Wash Sale Rule.
Lastly, increased medical costs, long-term care needs and unexpected death of a spouse will be events that you need to be prepared for when managing your retirement – and if you’ve been following along with your Free Retirement Checklist, then you should have addressed these concerns early in the planning process. However, to ensure you are protected adequately from these events, it’s important to review all of your insurance coverages to protect yourself from health risks as well as liability risks. You will want to conduct an annual review of the following insurance coverages:
- Life Insurance
- Long-Term Care Insurance
- Auto and Homeowner’s Coverage
- Umbrella Policy Coverage
End of Year
December 31st marks the last day of the tax year, which means it’s the last day to take advantage of a multitude of tax planning strategies. I already mentioned tax-loss harvesting as one benefit that expires after the 31st of December, but let’s explore a few other benefits to ensure you’re not missing out on any opportunities.
- Roth conversions – As I discussed in a previous article, converting monies in tax-deferred accounts to tax-free accounts in years when your income is low can make a lot of sense for retirees. Prior to 2018, you were able to change the amount you were converting (Recharacterization), but after the Tax Cuts and Jobs Act of 2017 (TCJA), the last day to finalize your Roth conversion amount is the last day of the current tax year.
- Establishment of retirement plans – Is either spouse self-employed or doing any type of part-time contracting? Self-employment income allows you to establish a variety of different retirement plans through your business like a Solo 401K. You have until the end of the current tax year to establish many of these plans, but many allow contributions until April 15th of the following year.
- Required minimum distributions – If you are over the age of 70 ½ or have an inherited IRA where RMD’s were already being taken, then you must take the required minimum distribution in the current tax year. There is a 50% penalty of your annual RMD for not taking your mandatory distribution!
- Charitable contributions – While the TCJA bill makes it more difficult for many retirees to itemize deductions, charitable contributions can boost your itemized deductions. There are many charitable gifting strategies that can be utilized to save taxes.
As you can see, the construction and implementation of your financial plan may be the most challenging aspect managing your retirement plan, but adjustments to your plan on an ongoing basis are just as important. Every financial decision you make is a reflection of how you decide to spend your golden years.
I hope this series of educational articles help guide you in preparing for retirement and managing your retirement plan. If you find that the process of managing your retirement is overwhelming or feel that you don’t have a great grasp of the material, then get some professional help from a Fee-only Certified Financial Planner™. Fee-only means that the advisor only receives fees from clients and no third parties to protect you from any conflicts of interest. I would recommend avoiding advisors that get paid commissions by third parties to sell their products. Transparency and objectivity are imperative to ensure you are getting advice that is in your best interest.
Danny G. Michael is the founder and CEO of Satori Wealth Mangement, Inc. He has 20 years of experience in retirement planning working with individuals, families, and business owners.