Finance: Planning your transition to retirement

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By Shannon Rowan

Benjamin Franklin is credited with saying, “If you fail to plan, you are planning to fail.”

Countless factors can influence retirement security. Perhaps the most important aspect is accumulating sufficient resources to fund a comfortable retirement.

Successful accumulation of retirement assets largely depends upon saving diligently during your earning years and holding a well-diversified investment portfolio through many market cycles. Numerous investors have met this goal through employer-sponsored retirement plans, such as 401(k)s, and by enlisting the services of an advisor, discount broker or – more recently – automated service.

The shift

As people’s careers wind down, financial and lifestyle dynamics shift, including a transition of savings from accumulation to distribution. Even though the ultimate purpose of these accounts is to produce cash flow during retirement, people are understandably reluctant to begin depleting this major component of their net worth.

Careful planning and thoughtful consideration of multiple factors such as taxation and portfolio allocation can help build confidence.

However, those who endured two major stock market declines during the first decade of this century are keenly aware of investment risks. They know that if a similar market disruption occurs at the beginning of this spending phase, the long-term consequences could be devastating.

Make a plan

People can establish and maintain an asset allocation matched to their goals, risk tolerance and time horizon with relative ease, through a variety of sources.

However, issues like the sequence of returns risk that occurs when the market declines significantly at the beginning of retirement often are not contemplated by self-service discount brokers or automated investment programs. Even skilled and experienced advisors can experience trouble managing this hazard.

When combined with the interrelated complexities that confront most retirees, such as health care issues, taxes and Social Security filing options, the process can become overwhelming.

Synthesizing all of a retiree’s pertinent information and related decisions into a cohesive strategy is the work of a financial planner. Here are some areas to evaluate with a financial planner.

Define your goals

When can you retire? Based upon your circumstances, a financial planner can project a reasonable retirement date. Typically, this projection will include back-testing – called Monte Carlo simulation – the projection against a large number of historic scenarios to gauge the probability of success.

Also, the variables can be adjusted to help inform and evaluate different outcomes. When this analysis is refined and complete, a financial plan can be developed to help meet the goals identified. This plan should be reviewed and adjusted periodically.

Establish your income

A widely accepted withdrawal rate is 4 percent of your total portfolio, with periodic adjustments for inflation. This means if you have $1 million in savings, you can draw $40,000 annually and keep up with inflation each year.

However, there are additional considerations. A comprehensive financial plan will incorporate Social Security filing options to determine strategies that can help maximize your net income. The income analysis should also prioritize the source of distributions so that your needs are fulfilled with optimal tax efficiency.

Throughout retirement, the necessity for current income will likely be at odds with the growth that is required to stay ahead of inflation and to generate income in the future.

Manage your risk

According to research conducted by investment giant Vanguard, the greatest value a financial professional can provide is often non-financial. The planning process supports this premise by confronting biases with data.

For example, many retirees seeking to avoid losing money – market risk – actually increase the risk of running out of money – longevity risk – by limiting exposure to growth-oriented investments.

A financial plan can suggest an appropriate allocation that is validated by risk metrics. As a result, the plan can help achieve the balance required between risk and return to provide both current income and portfolio stability along with the growth needed to fulfill future obligations.

Plan, review, repeat

More than 200 years ago, George Washington said, “System in all things should be aimed at, for in execution it renders everything more easily.”

While solving for retirement can be daunting, greater retirement confidence can be ensured for most people by developing and maintaining a comprehensive financial plan.

Shannon B. Rowan, CFP, is executive vice president and director of wealth services at Burke and Herbert Bank.

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