Monthly Archives: June 2012

Don’t Let Debt Weigh Down Your Retirement

Good Day,

You have done the math, and there could not be a perfect time to call it quits. Your monthly income will be enough to cater for your monthly expenses, and the standard of living that you have always dreamt of. But in this day and age, it’s no surprise that more and more retirees are retiring with debt as one of their monthly expenses, and who can blame them with the state of the global economy. Retiring debt-free is everybody’s dream, but over the years, more people are retiring with debt payments taking a large chunk of their retirement income. A retiree must assess their debt level to determine its sustainability during retirement, and be careful not to misinterpret the current reduced monthly charges because of the low-interest environment the economy is in right now, things are bound to change once the economy starts expanding again. If it is possible, pay-off the high interest rates debt first before retiring and when you finally retire, you’re only left with manageable debt level. But just because you still have debt, doesn’t mean you should let it weigh down your retirement plans, as explained in the following article by Karen Cheney. 

Not so long ago debt “was a four-letter word when spoken in the same breath as “retirement.” Before waltzing into their golden years, older Americans paid off their loans, then celebrated by burning the mortgage.

How things have changed!

Now a third of folks 65 and older have a mortgage vs. 20% two decades ago, according to recent Census data. Median balance: $56,000.

Meanwhile, seniors 65 and up carry an average $10,235 on credit cards, think tank Demos reports.

The affluent are not immune, either. Among households headed by those 65 and up with incomes over $100,000, 25% have non-mortgage liabilities, says the Center for Retirement Research at Boston College.

You don’t have to be totally debt-free before your golden years, to be sure. But financial planners caution that too much red ink, and the wrong kinds, can diminish your standard of living.

Make sure IOUs won’t weigh you down by taking these steps before retirement:

See how you’d manage. Remember that your income is likely to decline once you leave the workforce.

“You don’t want to go into retirement with more obligations than you can honor,” says Gail Cunningham of the National Foundation for Credit Counseling.

So use T. Rowe Price’s Retirement Income Planner to estimate what you’ll get annually from pensions, Social Security, and investments. Then total up the monthly nut on mortgages, car loans, and other installment loans; add-on what it would take per month to pay off your credit card in three years and your HELOC in five (you can use CNNMoney’s debt-reduction planner to calculate both). Divide the sum by your projected monthly income.

In your working years, you shouldn’t spend more than 25% of gross income on mortgage debt, 10% on other debt, says financial planner Phil Dyer of Towson, Md.

In retirement, when you’re living at least partially off your investments, he says, your mortgage should consume no more than 15% of income, other debt 5%.

Think you’ll be above that? Speed up paydown in the years before quitting. You may also have to work longer, take on a job in retirement, or move to a less costly home.

Eliminate the worst bad debt. Just because you could handle your debt in retirement doesn’t mean you should.

In particular, try to wipe out credit card balances, advises Cunningham. Plastic usually carries the highest rates, now an average 15%. Since you’re unlikely to get as high a return on your investments, you’re better off taking a lump sum from savings to pay the bill.

Rather not? Ask the issuer for a better APR or transfer the balance to a lower-rate card while you chip away at the debt.

Once you’ve zeroed out cards, pay down other “bad” debts — those that carry high rates, that aren’t tax-deductible, or that paid for assets that lose value, like cars.

Determine if good debt is good. In today’s low-rate environment, as long as you can continue making payments on your mortgage, you may benefit from keeping the loan. This is especially true if your savings are mostly in tax-deferred accounts and you are still getting the interest write-off. The reason: Cashing in assets in tax-sheltered accounts to pay the balance will cost you.

“Generally federal, state, and local taxes and possible tax penalties negate interest savings on the mortgage,” says financial planner Michael Hohf of Southfield, Mich.

Have money outside tax-deferred accounts?

“In the long run stocks should produce more than the 3% to 4% you’re paying on your mortgage,” says Indianapolis financial planner Elaine Bedel.

So if your stash is in equities, you may want to let it ride. Or, wait until your yearly portfolio rebalancing — and if your stock stake has risen above your target allocation, sell some equities and put the proceeds toward the debt, advises financial planner Michael Chasnoff of Cincinnati.

For those whose money is mostly in low-interest, fixed-income investments, paying down the loan could be prudent. Says Hohf: “Ideally the lost mortgage payment should be greater than the lost income from the asset that you sold.”

3 Ways to Take Control of Your Retirement

Good Day,

Sorry, if it seems that the only thing I can talk about nowadays is retirement, but maybe it’s because it will eventually determine the kind of life you’ll be living after all those years of hard labor. Majority of the population are concentrating on the present and how to survive one more day without losing your mind, when all around is news of how countries are getting deeper into recession. It’s true, we can’t escape from the present reality of the tough economic times, but we cannot also ignore the kind of future lifestyle we’ll be living during retirement. And the present circumstances should also reinforce the idea of why you need to be more in control of your retirement plan. Taking control means that your are fully aware of what you needs to be done to your retirement which will ensure that you’ll have the kind of retirement portfolio that will ‘guarantee’ your retirement dream. As Geoff Colvin explains in the following article, there are three ways of taking control of your retirement.

England’s blustery Dorset coast seems an unlikely setting for retirement planning lessons, but actually it’s perfect. That’s where this summer’s Olympic sailboat races will take place, and viewers new to sailing will learn a surprising fact: You can sail into the wind. You need to tack in ways that aren’t necessary when the wind is behind you, but do it right and you’ll move bracingly fast.

That’s retirement planning today. You’re feeling virtually all the financial winds right in your face. Strapped governments at every level will be giving you fewer services and taking more from you in taxes and fees. Inflation may be creeping up. Employers will continue the long-term trend of whittling retirement security by freezing or abolishing the few remaining defined-benefit pension plans and reducing company contributions to 401(k) plans. As for your investment portfolio — forget those reassuring historical stock market returns of around 11% annually and note that recent years have been far grimmer: The S&P 500 (SPX) is right where it was more than 12 years ago, in January 1999. Warren Buffett assumes Berkshire Hathaway’s (BRKA) pension plan will earn a modest 7.1% a year.

One more fact: You’ll probably live longer than you expect, a wonderful thing in every way except financially. New research from the Society of Actuaries finds that 57% of pre-retirees underestimate life expectancy from their current age, while only 28% overestimate. Your nest egg may have to last much longer than you thought.

Those are formidable headwinds. Yet as the Olympic sailors will remind us, you’re not condemned to being blown backward. The right tactics will propel you ahead even now. Think of your practical next steps in three categories.

Save smarter

In today’s low-yield environment, most of us must salt away more. Easy to say, hard to do. If your employer hasn’t adopted the Save More Tomorrow program, urge it to do so; and if it won’t, then follow the program on your own. Developed by UCLA business professor Schlomo Benartzi and behavioral economist Richard Thaler, it lets employees pre-commit to saving more every time they get a pay raise. It works — participants save much more than nonparticipants.

In choosing your saving rate, face the new reality of inflation. Experts debate whether years of monetary loosening in the U.S. and other major economies will push up prices significantly, but ignoring the risk would be foolish. Suppose you’d like your portfolio to pay you $100,000 a year (in constant dollars) for 30 years. With an after-tax return of 6% and inflation at 2%, a nest egg of $1.82 million will do the job. But if inflation turns out to be just one point higher than you assumed, at 3%, you’ll need another quarter million dollars.

Invest smarter

Back when we all thought we’d get 11% long-term annual returns, we could maybe afford to ignore fees and expenses. No more. It’s time to get tough on the “helpers,” Buffett’s sarcastic term for the intermediaries who take bits and pieces of our investment returns. As he and Vanguard founder John Bogle constantly preach: Over decades, tenths of a point matter. Some helpers, such as the best fee-only advisers, are emphatically worth their cost. But in today’s environment, investors must know exactly how much they’re paying and for what.

Investing smarter may also mean cleverly using your natural biases in your favor. Behavioral economists have found that we think of our spending in buckets — one for dining out, say, another for travel, another for car expenses. The tendency isn’t always rational, but Carnegie Mellon economist George Loewenstein has proposed that retirees harness it by setting up separate “pay the rent” and “spoil the grandkids” accounts. The rent account could be invested conservatively; the grandkids account could be invested aggressively for growth.

Live smarter

It’s a hard reality that many people will be living a bit less large than they had hoped in retirement, and maybe before. Don’t fight that thought. Embrace it. We’re living through the first era in history when significant numbers of people are being made unhappy by having too much rather than too little. The term is “affluenza,” now the subject of books and academic research.

Why are you planning to retire at all? It isn’t to maximize income. It’s to be happy. Millions of people are finding that having less makes them happier. Spending less and saving more is kind of like sushi: You have to be made to try it, but then you may find you love it. That’s also the potential exhilaration of sailing into the wind. As conditions change, reaching our goals demands a new course. With the right strategy you can still find your way to a great retirement. It could even be a happier one than you’d expected.

4 Ways to Avoid Your Own Retirement Crisis

Good Day,

Most of the times when I talk about retirement, most folks believe that since it’s one of those areas where you and your employer, for those who are employed, are making contributions to the employee’s retirement plan, not much can be done about that. Well, apparently in these difficult economic times, making regular contributions is not enough, you have ensure that the plan will be sufficient to cover your retirement expenses when you call it quits. Ensuring the sufficiency of your plan requires that you always tailor your plan to suit the circumstances that you are facing. Retirement planning is an ongoing process, thus you should always come up with ways of increasing the funds in your retirement that guarantees a decent retirement. The following article by Andrea Coombes illustrates fours ways of avoiding a retirement crisis by coming up with ways of improving your retirement portfolio.

Some Americans may be better prepared for retirement than they realize.

About 56% of baby boomers and Generation X (people between about age 38 and 65 now) are saving enough to cover their basic retirement costs, including uninsured medical expenses, according to a recent projection by the Employee Benefit Research Institute, a Washington-based nonprofit think tank.

The bad news is that 44% aren’t saving enough, and some of those people are on the lowest rungs of the income ladder, so they may have little opportunity to ramp up savings as they age.

Still, while some people face a troubling retirement outlook, others in that 44% group can take steps to get their savings on track.

“Some Americans face a retirement crisis, but it isn’t the majority,” said Stephen Utkus, director of Vanguard Group’s Center for Retirement Research.

“For the longest time, studies have always pointed out that about 50% of Americans seem clearly ready for retirement,” he says. But it’s a mistake to assume the other half is in deep trouble.

Instead, Utkus said, people fall along a spectrum of retirement readiness, with 20% to 30% of Americans “partially ready” for retirement.

“A significant number of people can take some steps between now and retirement to move the dial and get to ‘prepared,’” he said.

Here are four ideas to improve your retirement readiness.

1. Increase your savings rate 1% or 2% each year

You’re tired of being admonished to save more, but why not do it relatively painlessly with a small annual increase?

Ramping up your current 5% 401(k) contribution rate to 10% over a four-year period means an extra $550 in monthly income in retirement, according to an analysis by Fidelity Investments. The analysis assumes a 37-year-old worker with a $74,000 annual salary, $20,000 401(k) account balance, 3% employer match, an 8.35% annual return, and an age-67 retirement date.

Then consider going beyond 10%. “If somebody is going to be saving their entire career, 15% is typically what most financial professionals suggest you put in,” said Jack VanDerhei, research director at EBRI.

2. Work two extra years

Maybe you’re not keen on the new normal for retirement, which for some means not retiring at all. But there is a middle road: Work just two more years than planned.

Consider two hypothetical people, each with $1 million in savings. One retires at age 64, the other at 62. They both seek $75,000 a year in retirement.

For the early retiree, the combination of a lower Social Security payout (about $1,500 monthly versus $1,750 monthly), two fewer years of earnings on his savings, and the portfolio hit from pulling $150,000 out for living expenses in those two years, adds up to him running out of money by age 88.

Solely by virtue of waiting two years, the other retiree has $242,358 in savings at age 90, according to an analysis by Richard Jackson, chartered retirement planning counselor and a principal at Dallas-based Schlindwein Associates. The analysis assumes a 6% rate of return, and doesn’t take into account taxes, variability of returns, or additional savings from delaying retirement for two years. The Social Security payout estimates are based on his clients’ experiences.

3. Buy an annuity

A major conundrum of retirement planning is estimating how long you will live. Longevity insurance helps savers mitigate the risk of getting that answer wrong—that is, living longer than expected and running out of money.

The idea is that when you retire at, say, 65, you take 10% or 15% of your savings to buy an annuity that doesn’t start paying out until age 85.

The retiree gets to retain control over the bulk of her portfolio, yet she also gets insurance to back up her savings in the event of a long life.

“You only have to put down a relatively small percentage of your 401(k) or IRA balance to get relatively decent monthly income at that point,” VanDerhei said.

That means you can focus on saving for the years up until age 85.

That said, annuities have drawbacks. You’ve locked up that money. You’ll pay extra for inflation protection and the ability to leave any of that money to heirs. You have to trust that the annuity company will survive for decades to come.

4. Work part-time for five years

Getting a part-time job—if you can find one and your health allows it—is another way to prime the retirement-savings pump.

Take someone who retires at 65 with a final salary of $75,000. He’ll need a total of about $780,600 in retirement savings if he doesn’t work part-time—but that drops to $661,000 if he works part-time for five years earning 30% of his former salary, according to an analysis by VanDerhei.

The analysis assume the retiree wants to replace 85% of pre-retirement income, a 3% inflation rate, a 5% rate of return, the retiree doesn’t have a traditional pension and he dies at 88.

Someone who retires at 65 with a final salary of $50,000 will need a total of $490,000 in retirement savings if he doesn’t work part-time, but $411,000 if he works part-time for five years earning 30% of his former salary, according to VanDerhei’s analysis, using the same assumptions.

If the part-time job pays 50% of his former salary, that retiree needs total savings of about $358,000, or about $132,000 less.

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