WHETHER BY CHOICE OR CHANCE— an illness or layoff, for example— nearly half of us retire sooner than we’d planned.1And retiring earlier means living in retirement longer: The assets you’ve saved over your career will need to stretch farther, even as you stop contributing to your 401(k) or other retirement accounts.
“Retiring at 55 can have meaningfully different implications versus retiring at 65,” says David H. Koh, managing director and senior investment strategist in the Chief Investment Office for Merrill and Bank of America Private Bank. “Fifty-somethings will likely need to make their retirement savings last an extra decade or more.” In addition, early retirees often have higher expenses than those retiring later in life; for instance, you may still be paying a mortgage or tuition bills. And you might have to cover the full cost of health insurance until you’re eligible for Medicare.
As a result, the strategies early retirees use to create their “retirement paycheck” can take on heightened importance. Will I still be able to pay all of my bills and live the life I want in retirement? How much will I be able to withdraw monthly without jeopardizing my long-term financial security? What are the tax implications— and trade-offs? Your financial and tax advisors can help answer those and other questions as you work together to create an income stream designed to support you throughout your life.
3 STEPS TO CREATING YOUR RETIREMENT PAYCHECK
First, sit down with your spouse or partner— if you have one— and your financial advisor and calculate your regular expenses. Those generally include housing, food, transportation and insurance as well as possibly charitable donations, education costs, travel and gifts.
— David H. Koh, managing director and senior investment strategist, Chief Investment Office, Merrill and Bank of America Private Bank
“If you can afford to delay tapping your Social Security benefits, you’ll likely have greater funds available later, when you may need them most.”
Next, you’ll want to identify the income sources you can draw from to create a monthly “paycheck.” Your list may include a severance package, a pension and retirement accounts— such as traditional or Roth 401(k) or 403(b) plan accounts, and traditional and Roth IRAs— in addition to Social Security benefits and possibly even rental income and disability benefits.
Once you have a clear picture of your finances, your financial and tax advisors can help you determinean appropriate overall withdrawal strategy, based on your assets, age, income sources, tax considerations and other factors. If you’re currently spending more than your projected monthly retirement income, your financial advisor may suggest ways to help you adjust your finances— by delaying retirement or taking on part-time consulting work, perhaps, or moving the date at which you begin claiming Social Security benefits. You might also begin to look for ways to trim expenses in one area or another.
It isn’t enough to know how much you can afford to draw from your income sources each month. You’ll also need to think through the tax and investment implications of withdrawing money from each source, among other factors. Again, that’s where your advisors can help you understand your choices.
From a tax perspective, one option to consider is withdrawing from your taxable accounts first, then tax-deferred, then tax-free.
Social Security.Though you can generallybegin collecting Social Security at age 62, your benefits will increase each year you wait, up to age 70. “If you can afford to delay tapping your Social Security benefits, you’ll likely have greater funds available later, when you may need them most,” says Koh. Still, sometimes it might make sense to consider claiming benefits sooner. For one, doing so might allow you to delay withdrawing money from your retirement savings accounts to give them more time to grow.
Lump sum or monthly payments?Pensions and some retirement packages may offer you a choice: Take a lump-sum payout or begin monthly payments immediately, or, if you retire early, delay those payments until the normal retirement age under the plan or later. It’s a good idea to consult your tax advisor on the implications of each option.
Taxes and your retirement accounts.When it comes to withdrawals from your retirement accounts, the rules can be complex.If, for instance, you leave your job during or after the year you turn 55, the rule of 55 generally allows you to tap your account under your employer’s retirement plan, such as a 401(k), without owing the 10% early withdrawal tax.
From a tax perspective, one option to consider is withdrawing from your taxable accounts first, then tax-deferred, then tax-free, though it is important to take your individual tax situation into account. This strategy generally allows you to maximize tax deferral in tax-qualified accounts, as the money in tax-qualified accounts is generally able to grow tax-deferred or even tax-free.
“Your financial advisor can help you determine the best mix of withdrawals,” says Merrill Wealth ManagementAdvisor Lisa Kent. “As you create your drawdown plan, you’ll want to try to avoid landing in a higher tax bracket or derailing your preferred asset allocation,” she notes, adding, “When clients convert their retirement assets into cash, we generally help transfer them someplace liquid and secure until they need them.”
After you’ve addressed your short-term income needs, it’s time to review your portfolio to see whether it has the potential to last 30 or more years. In a low interest-rate environment, “an overly conservative portfolio is unlikely to provide the growth you may need for a longer-than-expected retirement,” says Koh— especially if you enter a period of high inflation. So you may want to consult with your financial advisor on the appropriate asset allocation mix.
— David H. Koh, managing director and senior investment strategist, Chief Investment Office, Merrill and Bank of America Private Bank“An overly conservative portfolio is unlikely to provide the growth you may need for a longer-than-expected retirement.”
While fixed income provides diversification and potentially offers a ballast to market volatility, “for purposes of growth, you should engage with your financial advisor to determine what the right fixed income solutions would be, given your risk appetite and tax sensitivity,” suggests Koh. For purposes of income, some alternatives to consider include dividend-paying equities, real estate investment trusts (REITs) and certain alternative investmentsfor qualified investors2 — all within a thoughtful diversification framework.
Diversification is vital, adds Merrill Wealth ManagementAdvisor Mary Jo Harper. “The biggest mistake I see among retirees is a portfolio overly concentrated in the stock of a former employer or in one sector, usually the sector the client worked in,” she explains.
Finally, it’s a good idea to review your plan with your financial advisor regularly so that you can make adjustments depending on market conditions, inflation, personal goals and other factors. That way, you can take comfort in knowing you’re managing the retirement assets you’ve saved over your career in the most thoughtful way possible.
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1Employee Benefit Research Institute and Greenwald Research, “2023 Retirement Confidence Survey,” April 2023.
2Individuals who invest in these strategies must meet certain income thresholds in order to qualify, depending on the type of alternative investment. An advisor can help determine whether you’re qualified.
Important Disclosures
Opinions are as of 01/08/2024 and are subject to change.
Investing involves risk including possible loss of principal. Past performance is no guarantee of future results.
This information should not be construed as investment advice and is subject to change. It is provided for informational purposes only and is not intended to be either a specific offer by Bank of America, Merrill or any affiliate to sell or provide, or a specific invitation for a consumer to apply for, any particular retail financial product or service that may be available.
The Chief Investment Office (CIO) provides thought leadership on wealth management, investment strategy and global markets; portfolio management solutions; due diligence; and solutions oversight and data analytics. CIO viewpoints are developed for Bank of America Private Bank, a division of Bank of America, N.A., (“Bank of America”) and Merrill Lynch, Pierce, Fenner & Smith Incorporated (“MLPF&S” or “Merrill”), a registered broker-dealer, registered investment adviser and a wholly owned subsidiary of Bank of America Corporation (“BofA Corp.”).
Asset allocation, diversification and rebalancing do not ensure a profit or protect against loss in declining markets.
Investments have varying degrees of risk. Some of the risks involved with equity securities include the possibility that the value of the stocks may fluctuate in response to events specific to the companies or markets, as well as economic, political or social events in the U.S. or abroad.
Alternative investments are speculative and involve a high degree of risk.
Alternative investments are intended for qualified investors only. Alternative Investments such as derivatives, hedge funds, private equity funds, and funds of funds can result in higher return potential but also higher loss potential. Changes in economic conditions or other circ*mstances may adversely affect your investments. Before you invest in alternative investments, you should consider your overall financial situation, how much money you have to invest, your need for liquidity, and your tolerance for risk.
Real Estate Investment Trusts (“REITs”) involve a significant degree of risk and should be regarded as speculative. They are only made available to qualified investors under the terms of a private offering memorandum. Holdings in a REIT may be highly leveraged and, therefore, more sensitive to adverse business or financial developments. REITs are long term and unlikely to produce a realized return for investors for a number of years. Interests in a REIT are not transferable. The holdings may be illiquid — very thinly traded or assets for which no market exists. A REIT may use leverage, which even on a short-term basis can magnify increases or decreases in the value of the private equity investment. The business of identifying REIT opportunities is competitive, and there is no assurance that the REIT will be able to complete attractive investments or fully commit its capital. In addition, a REIT’s high fees and expenses may offset the fund’s profits.
Dividend payments are not guaranteed, and are paid only when declared by an issuer’s board of directors. The amount of a dividend payment, if any, can vary over time.
This material should be regarded as educational information on Social Security and is not intended to provide specific advice. If you have questions regarding your particular situation, you should contact the Social Security Administration and/or your legal advisors.
Case studies are intended to illustrate brokerage products and services available at Merrill and banking products and services available at Bank of America. You should not consider these as an endorsem*nt of Merrill as an investment advisor or as a testimonial about a client’s experiences with us as an investment advisor. Case studies do not necessarily represent the experiences of other clients, nor do they indicate future performance. Investment results may vary. The investment strategies discussed are not appropriate for every investor and should be considered given a person’s investment objectives, financial situation and particular needs.
