The good news about retirement is that we’re living longer than we’ve ever lived before. The bad news is that we’re living longer than we’ve ever lived before. This means it’s more important than ever to make the right retirement choices, avoid mistakes, and do everything possible to ensure your retirement money lasts.
Many people live well below their means in retirement because they lack a good plan. Other people spend too much because they’re working with an advisor who’s telling them everything’s fine. The market will just keep on going up.
At the end of the day, it’s your retirement and your responsibility. If you’re okay with going back to work or moving in with the kids, like we saw retirees do during the global recession in 2008, then there’s no reason to read any further. If you want to avoid mistakes, here are five of them to watch out for.
1. Making the Wrong Pension Choice
While it’s getting more rare for people to have pensions today, pensions do still exist. However, they might not be as straightforward as just retiring and receiving structured income payments from your company based on your salary and length of employment. There are usually important decisions to be made about them—companies offer choices. You can choose to receive a larger monthly pension payment amount without survivability—or greatly-reduced payments—to your spouse if you pass away. Or, you can choose to receive a smaller monthly pension amount that includes 100% survivability—an amount that will continue to be paid to your spouse if you pass away no matter how long they live.
Obviously, many people get enticed by the higher amount, but it’s important to think about both spouses’ longevity in retirement. Usually, women live longer than men, and, often, in poverty. If a pension check suddenly stops along with one of the Social Security checks, your surviving spouse could be facing a life-altering crisis and a great burden added to their grief at losing you.
Some companies offer the option of taking a lump sum amount instead of a monthly pension payment. The biggest reason to do this is that your beneficiaries can inherit the money. For instance, consider what would happen if you start drawing a pension at age 65, and at age 67 unexpectedly both you and your spouse pass away. The amount that was inside of the pension designated for you is lost forever. Conversely, by choosing the lump sum, the money would pass on to the beneficiaries rather than being tied to the pension itself.
Another reason to take the lump sum is company risk. Some companies get into financial trouble years down the road and former employees lose pensions they were counting on. (For example, this has happened to airlines, including United Airlines and Pan Am.) To a certain extent, all companies are a risk depending on the way their pension plan is structured and what it allows them to do.
The downside of taking a lump sum is that it might add up to much less in the long run than the monthly payments if you and/or your spouse live a very long time. Additionally, if you don’t manage your money well, you could lose it in the market or in a bad investment. You have to factor in inflation, too, as you make your decision.
2. Leaving Social Security Money on the Table
In general, you can file for Social Security starting at age 62, but this reduces your benefit permanently by 30%. Full retirement age (and full benefit amount), which used to be age 65, has been raised and depends on your month and year of birth—it’s somewhere around age 66 or 67 now. But, you also have the option of waiting to claim Social Security benefits. This offers the advantage of increasing your monthly benefit amount by 8% annually, (plus any cost of living increases) permanently, up to age 70.
But, many people don’t realize there are dozens of other ways to file for Social Security for couples, widows/widowers, or divorced spouses. Good financial advisors have software that can analyze which filing options will benefit you the most depending on your situation. You could miss out on thousands of dollars by not finding out about your filing options, and unfortunately, many people do.
3. Thinking Bond Funds are Safe
Bond funds are comprised of individual bonds of many types, and they have risk. Many people do not understand that bond funds can lose money, because they’re told by stockbrokers that bond funds are “safe.” People are still using the Rule of 100, which says that if you’re 70 years old, 70% of your assets should be in bonds or bond funds.
The thing is when interest rates rise, they negatively affect both bonds and bond funds. As interest rates go up, they are inversely correlated to the value on those bond funds, actually reducing the amount or value that you have in those bond funds.
If your retirement plan looks like a pie chart and you’re putting major allocations into “safe money,” like bond funds, your retirement money is at risk, and you need to change your strategy.
4. Tying up Retirement Money in REITs
For some reason, people are under the assumption that REITs (Real Estate Investment Trusts) are pretty safe investments, regardless of the housing market crash that happened in 2008. But, even if there never is another housing crash, and REITs never again lose 90% of their value, REITs still have some major downsides for retirees.
One major drawback is their lack of liquidity. Often, people who own privately-traded REITs find they can’t get rid of them. If you buy something like a 10-year CD, you know you can sell and get out of it after 10 years. But, with an REIT, you don’t know what the time horizon is. Some REITs cannot be sold until you die, and if the REIT turns bad, or stops paying dividends, you can’t do anything with it.
When you’re retired, you’re not working. You need to provide your own reliable income from your assets. Tying your money up in REITs just doesn’t make sense.
5. Using the 4% Rule
The 4% Rule just flat didn’t work in 2008, it completely destroyed thousands of retirements. And the reason wasn’t the percentage, that magic number that they were drawing out—even 3% or 2% would only have made the carnage last a little longer.
The problem was where they were drawing their money from. You simply can’t withdraw money from fluctuating accounts like equities—stocks and bond funds—and call it a good retirement strategy, because you will be subjecting your retirement money to sequence of returns risk.
When the market drops by 50% and you draw money out of your fluctuating accounts, you compound your losses drastically. It will take years for you to even come back to even. Drawing income from a fluctuating account is essentially committing financial suicide in your retirement.
The only way the 4% Rule can work is if markets only go up.
For people who say, “Well I’ve already taken a huge hit in the markets right now so I’m just going to ride it down and wait for it to come back up,” well, that’s great if you have all of your retirement income coming from other sources while you wait the typical seven to eight years it takes for markets to cycle back up. But most of us in retirement can’t afford to wait for money we need to live on.
If you’re making any of these five mistakes, chances are you’ve got the wrong financial advisor and need to find a fiduciary retirement planner as soon as possible. There is another way.