Jason and Emilia talk about creating a bucket strategy for cash-flow in retirement.
Below is the full transcript:
Announcer: Welcome back, America, to Sound Retirement Radio. Where we bring you concepts, ideas, and strategies designed to help you achieve clarify, confidence and freedom as you prepare for and transition through retirement. And now, here is your host, Jason Parker.
Jason: Hey, America. Welcome to another round of Sound Retirement Radio. It’s my good fortune to have the amazing Emilia Bernal, in the studio with me this morning. Emilia, welcome back.
Emilia: Thank you. Good morning.
Jason: Good morning. So, this is episode 128. The title is, “How To Create A Retirement Bucket Strategy for Cash flow.”
So, we’re going to get into some of the nuts and bolts on how to create a good retirement plan. In my opinion, it’s kind of the foundation of what “Sound Retirement Planning,” my book, is all about.
Before we get going, this morning, Emilia, I like to start the morning right, a couple of different ways. First by renewing our mind, and I have a verse here for us. This comes to us from John 8 verse 12. “When Jesus spoke again to the people, he said, ‘I am the light of the world. Whoever follows me will never walk in darkness, but will have the light of life.'” When I really need to be reminded of that, especially this time of year with all of the gray skies and record breaking rain that we’re having in Washington, I need to have the light of life in my life. So, thank you for that verse.
Emilia: I completely agree. I am ready for some sunshine.
Jason: Hey, Emilia, how about a joke? Did you have one for us?
Emilia: Yes. Well, hopefully, this’ll put a smile on everyone’s faces.
Jason: Yes, we like smiles.
Emilia: So, my joke is today:
What has four wheels and flies?
Jason: I can’t remember. I knew this one at one time.
Emilia: A garbage truck.
Jason: What has four wheels –
Emilia: A different kind of flies, but yes.
Jason: Four wheels and flies. See, I was thinking Back to the Future.
Emilia: Right? Well, airplanes have wheels, but do they have four? I’m thinking all kinds of different things, but, all right.
Jason: Put a joke or put a smile on the grandkids face this morning, when you’re off to see them this weekend.
Jason: Okay, so the episode, Emilia, is “How To Create A Retirement Bucket Strategy For Cash flow” because retirement’s a different game. Retirement is all about cash flow.
So, Jason, what is the most important part of a retirement plan?
Jason: It’s cash flow. If you don’t have income in retirement, if you don’t have cash flow, you don’t have a retirement. So, it really boils down to cash flow. I’d say, the second part of a good cash flow plan is your budget. How much money you spend in retirement, if we don’t know how much we spend it’s impossible to create a plan that’s going to give you any sense of confidence.
Now I have to tell you, I met a woman several years ago, when they had retired, they had about $500,000 saved, which was a pretty nice nest egg. About 15 years into that retirement, they had spent all of their money.
Jason: Now, when they retired, they had a great sense of confidence. They thought, boy, we’re doing great. We have plenty of money saved, they didn’t really have a budget. Actually, they did not have a budget. So, they were overly confident, they overspent, to the point where they did, indeed, deplete their resources. I have to tell you, that can be a scary place to be, and that’s what we’re trying to avoid. With having a good plan is making sure that people are never in a place where they’re having to go back to work in retirement, or maybe they’re just not having the lifestyle that they expected.
So, having that budget in place, and maybe budget is a bad word for people in retirement. Some people, that’s a negative connotation, it means cutting back. So, instead of calling it a budget, because we’re not trying to save more in retirement, that’s not what we’re trying to do, maybe we should call it a spending plan.
Emilia: There you go.
Jason: So, that way, people are saying, “Look, let’s spend this money that we’ve saved.” The reason most people have saved it in the first place is for retirement. When you ask them, “What do you mean for retirement?” They say, “Well, so that I can have the lifestyle that I want. So, we can do the things we want to do, so that we’re never a burden to our family, physically, or financially.”
So, retirement’s all about cash-flow. You’ve got to have a good budget, and that’s what this episode is all about, is helping people understand that once they transition in to de accumulation phase, they’re no longer accumulating assets. What’s going to be the best way to help them diversify.
Emilia: Absolutely. So, it sounds like there is some risk when coming to retirement. So, what are some of the risks of retiring today?
Jason: Right now, today, I think probably more than ever, people should go out and Google the Shiller Cape Ratio. Just understand where the price of the stock market is today, and from a historical standpoint, because priced earnings and stock market’s pretty expensive. So, you’ve got stock market risk today.
One of the concerns that a lot of people have is the old rule of thumb, the way that people used to do this is they used to just put 60% of their portfolio in bonds, and 40% in stocks, or vice versa. 60% stocks, 40% bonds. But one of the concerns we have … A lot of people have right now, that have been in bonds for the last couple months have interest … You know, I talked about this in the book.
I talked about the interest rate risk that especially bond mutual fund holders have in a rising interest rate environment. They’re experiencing that now, so if they didn’t read the book beforehand and think strategically about how they should be positioning themselves in retirement, they’re probably experiencing some validity in those bond portfolios, now as interest rates have been going up. So, that’s a risk that people need to be thinking about.
Another big risk that a lot of people are concerned with right now, today, are inflation. It’s inflation. You know our government went on this spending spree and printing of money spree, which frankly, I think was necessary in order to avoid deflation and to avoid going into a depression. So, we’ve avoided that, but then Milton Friedman once said, “There has never in history been a rapid increase in the quantity of money without there also following an inflation.” So, the government says they want inflation, the Federal Reserve says they want inflation. They have an inflation target of 2%, so, if you’re going to fight the Fed on this, you’re fighting, I think, a losing battle. So, inflation is a big concern. You know, will you have the same purchasing power, will your dollars keep up with the purchasing power as you transition and through retirement. It’s a big concern.
Another big concern right now are taxes. Even though we have the current administration saying, “Hey, we want to reduce taxes for a lot of people,” they’re also saying that some people could end up paying more money in taxes. So, I just heard on the way home last night, on the radio, here in the state of Washington, they’re talking about our legislature, and the state of Washington is talking about higher taxes for people with homes over $1,000,000. They’re talking about higher capital gains tax for people in the state of Washington, so this could be a state by state concern, but it could be a federal concern as well. We could see some higher taxes in the future, and that just kind of makes sense because we’ve spent a lot of money, we’ve got a lot of debt, and so somebody’s going to have to pay that debt. Or we’re going to have to default it or something’s going to have to happen in order to make good on these promises.
Jason: So, taxes is one. And the other one is just, I think, there’s a lot of concern because we do have all this debt, are we going to be able to make good on our promises with things like Social Security. People see the Social Security Trustees report, it says that they’re spending more money then they’re taking in, and by 2032, they’re going to have to cut benefits for everybody. So, that’s a concern for folks. Medicare, obviously, healthcare in our country is a big issue. Medicare has avoided most of the Affordable Care Act, in terms of negative impacts to retirees. But being that that’s one of the top items on our countries budget, I think people probably should be concerned about how they’re going to pay for healthcare in the future.
Fidelity puts out a report every year that says medical costs … A retired couple today, can expect to spend almost $250,000, I think the number last year was $240,000, on healthcare expenses, not including long term care. That’s just things like deductibles and co-pays, and health insurance premiums. So, it’s a big deal.
Emilia: Absolutely. And you’ve always spoken a lot to diversifying. So, how can a retiree diversify to have a greater sense of confidence in their retirement plan?
Jason: Yeah, this is really important because diversification in retirement is a different animal than diversification during your accumulation years. When you’ve got your 401K, and your TSP, and your IRA, and your ROTH, it’s really just a matter of being diligent about dollar cost averaging and saving on a consistent regular basis. You can just have a … Diversification means having different asset classes, different sectors and being diversified globally across the entire world. That is all good advice for people that are accumulating assets. But for people that are retiring, diversification should really take on two different, it should be a two-step process.
First, you diversify your time horizon, based on when you’re going to need the money, because now you’re not putting money in, you’re drawing money out. Time is the cure of the volatility of the stock market. The more time you have, the more risk you can afford to take. So, the bottom line with diversification in retirement is to first diversify time when you’re going to need the assets, and then if time is the cure of the volatility of the stock market, then the more time we have, the more risk we can afford to take.
I want to remind our listeners, you’re listening to episode 128. The title is, “How To Create A Retirement Bucket Strategy For Cash flow.”
Bucketing or laddering, some people call it, or time segmented diversification, these are all universally known ideas for creating retirement cash flow. And one of the things I want to remind our listeners of, Emilia, because this talk on the radio can maybe seem a bit technical to people that are driving down the street, but we did create a video for people that are more visual learners. I tend to be more of a visual learner, somebody cannot just explain it to me, but show me at the same time, I learn better that way. So, if they go to soundretirementplanning.com, over on the right hand side, we’ve got a little bucket, a little box that they can click that says the “Sound Retirement Planning Blueprint.” It’s a four minute video that walks people through how to create a retirement bucket strategy for cash flow.
Emilia: That’s great.
Jason: It’s just a tool, a resource that’s available. But ultimately coming back to that idea of diversification, two steps, first you diversify across time and then the more time you have, the more risk you can afford to take. Now the reason you do that, let me shed a little bit of light on that. The fear that we have, the concern that we have in today’s market is if you don’t … If you’re pulling money out of an account that’s falling in value, you have the potential to do something what’s called reverse dollar cost averaging. You have a bad situation and you’re making it worse.
If the stock market’s declining and you’re pulling money out of that account, it’s going to be hard to get back to even. A lot of people don’t think about this, but if you lose 50% in one year, in the stock market, you don’t need a 50% return in year two to get back to even. You actually need 100% return to get back to even. But if you’ve been pulling money out of that account, you’re just … You’re going to be in a position that’s going to be very hard to play catch up, and you’re not working anymore, so what you have is what you have.
One of the ways I like to describe this is, I say, “Taking money out of an account that’s falling in value is kind of like being stabbed and going to donate blood at the same time.” You’ve got a bad situation and you’re intentionally making it worse. So, let’s not do that. Let’s have some money that’s safe, and the only way we know how much to have safe is, going back to that budget, because we need to say, okay, we need X dollars in cash, money market CDs, some people like to use immediate annuities for cash flow, whatever they’re comfortable with, but just have some money in a safe account that’s going to be generating a monthly paycheck for them. So, that just like when they were working, they’re getting that income coming in, they know what their expenses are going out.
For that first bucket, I like to see people with a minimum of three years of expenses set aside, for people that are really conservative, more like five years.
Emilia: Oh, that’s a good idea. And you mentioned a lot about there are different tools that people can use, so what are the different financial tools that people can use to create a bucket strategy?
Jason: I think people spend too much time on the financial tools and not on the plan.
Jason: The plan … You don’t put the cart before the horse, right?
Jason: That old saying. Well, the same thing. Well, you don’t put the tools before the plan. The plan comes first, you create the plan, and then you use the right tool to help you accomplish what you … How you want to accomplish. Now, in the world today, we have more tools available to us than we’ve ever had before. In fact, we have more of everything than we’ve ever had before. My wife sent me to buy toothpaste the other day, and I walked into the toothpaste aisle, and I swear I stood there for 30 minutes just trying to look at all the different toothpaste options. I had so many options with toothpaste, I couldn’t even make a decision, I was paralyzed.
Jason: And it’s the same thing that happens with people with their investments. There are so many tools available to them. You’ve got stocks, bonds, mutual funds, ETFs, annuities, hedge funds, limited partnerships, real estate investment trusts, and the list goes on and on and on. So, you can use all of those tools, frankly. Make the plan first, depending on how much risk you want to take is going to determine which tools you want to use.
One of the things I would say though, is that if we can keep your fees as low as possible, that one tip of trying to keep your fees as low as possible is going to help you create a strategy that potentially is going to last a longer period of time. So, control the things we can, like fees and taxes, when creating that plan. But create the plan first, don’t get hung up on the tools, but let’s talk a little bit about some of the tools so that we’re giving people the information that they really need to make a good decision here.
Jason: So, as we think about a bucket strategy, so just think of, we have actual … You have these buckets sitting in front of you. We’re going to take your retirement savings, and we’re going to fill up each one of those buckets. Depending on when we’re going to need the money, and how much time we have before we need them. So, that first bucket’s that short term, that’s income for the first couple of years of retirement. Maybe that’s three years, maybe that’s five years. It’s the difference between what your pension and your social security is versus what the short fall is.
So, let’s say you have $3,000 a month of social security coming in, but you need to spend $5,000 a month, well, we know you have a $2,000 a month short fall. So we’re going to want to take that dollar amount, $2,000 a month, and we’re going to want to multiply that by whatever period of time you feel comfortable with. Whether it’s three years or four years or five years of cash, and we’re going to take that and we’re just going to keep it in a money market account. Maybe we’re going to put it in a high yield savings account. We need the money to be liquid, we want to be able to access it.
Sometimes we’ll see people use an immediate annuity in this first bucket. An immediate annuity is really, what it is, it says you give the insurance company a sum of money, and then in return, they pay you a certain amount every month or every quarter, or every year. Most people have it monthly, if they’re going to use it for that first bucket. But some people that just like to have it paycheck kind of showing up will use the annuity strategy. People that like to have a little bit more control will use the money market, or the high yield savings. You do give up some liquidity when you use the immediate annuity, but you usually are compensated a fair rate of return in today’s interest rate environment. Then you have that consistency of the income coming in. It would be short term, but it would only last three to five years for that first immediate annuity.
The second bucket, now we’ve … Let’s say we’ve bought five years of time, right? Because we know we have five years of expenses before we need to touch the money, now we don’t have to touch bucket two for at least five years. Remember, time is the cure of volatility of the stock market. More time we have, the more risk we can afford to take. But in bucket two, five years is not enough time necessarily to not … We’ve seen where the market declines and it takes a while to get back to even. So, we want to make sure we have enough time to really feel confident.
Now some people will use mutual funds in the second bucket, this five year bucket, or ETFs. I prefer to still think safety in that second segment. So, you can use bank CDs in the second segment, you can use fixed differed annuity contract in the second segment. If you want to take a little bit more risk, you could buy individual bonds and hold them till maturity, and ladder … Well, not necessarily ladder bonds in that second bucket because you just want to know that you’re going to have access to that money in five years. So, depending on how much risk you’re willing to assume will determine which financial tools, but the bottom line is, when the first bucket’s depleted, we’re going to have to go and step into that second bucket, that five year bucket, so we want that money available to us at the end of that fifth year, so that we can replenish and say now we not only need our $2,000 a month, but there’s been inflation, so we have to assume that inflation is eating away at our purchasing power. So, we need to make sure we’re funding that second bucket with enough money that when the first bucket is done, we can now go to bucket two, flip the switch, turn that into income and you can see, progressively, what we’re doing here.
So, now we move from bucket two, now you figure, we’ve got 10 years of time. So, let’s say you retire at 62, now you’re 72 years old before we’re having to touch bucket three. Now, when you get out 10 years, that’s a lot of time on your side. You can afford to take more risk with that money. And yes, you’re going to see fluctuations, you’re going to see the market go up and down, but as long as we have enough time on our side, time is the cure of volatility of the stock market.
So, with that third bucket, Emilia, that’s where we can use stocks, bonds, mutual funds, ETFs, those types of tools to just create broadly diversified portfolios across asset classes and sectors, diversified across the entire globe. We can also use rebalancing method there, so that we’re intentional about selling assets high and buying assets low. We can also use a little bit of a tactical approach in that third bucket, just to say, hey, you know, we may not want to ride the market all the way up and all the way down, and a tactical approach gives us the ability to go to cash to try to protect our portfolio. But when we have 10 years of time, we have more flexibility, because we can make some mistakes, and still recover from those mistakes, as long as we have enough time on our side.
The last bucket might be something where we say, okay, now we know we’ve got this time that we’ve built up, now we can take the most risk, maybe with a fourth bucket. Maybe that’s all stocks, all dividend paying stocks. And the idea with that bucket is, let’s have some money there that with blue chip companies that have paid dividends for a really long time, they have a track record of raising those dividends. So, now we’ve got this extra little pool of income that’s inflation adjusted because we have these stocks that have more potential for appreciation, unlike a bond, and they’re also kicking off cash flow.
So, these are some of the ways we see people creating retirement diversification strategies to build a portfolio that is going to support them over a long period of time.
Emilia: Great. So, what are some other things that people should consider, if anything that you can recommend?
Jason: Well, I think one of the important things to consider, of course, is social security. That’s a great benefit that people have paid into for a long time, especially for married couples. They want to make sure they’re getting the most money back out of that. And I met with a gentleman recently, he said something that really caught my attention, he said, “Jason, you know, a lot of us will spend time to go to the gas station down the street to pay five cents less per gallon for our gasoline.”
Emilia: Right. Guilty.
Jason: But a lot of people will never understand the best social security claiming strategy. So, they’re spending all the time on all these small decisions, clipping coupons at the grocery store, and the social security decision could be a $50,000 decision, and so you don’t want to mess that up. Too many people, they’re focused on the wrong, they’re focused on the small things when they should be focused on the major things.
So, I would say, that’s a big one, social security’s tax efficient income. It’s inflation adjusted income, it’s got a benefit for surviving spouse. We just want people to get the very most out of that benefit possible.
Another thing that people need to be thinking about, and this is a secondary thought.
Emilia: Mm-hmm (affirmative).
Jason: It’s not our primary concern, but taxes are a big deal. Taxes and inflation can really eat into your purchasing power over time. If you figure most people’s money is tied up in these retirements accounts, where they’ve never paid taxes on it, they have an account. I like to equate it with somebody that’s planted an apple orchard, right? They had a choice when they were going to pay taxes. They could either pay taxes on the seed, or they could wait and pay taxes on the harvest. What most people are doing is paying taxes on the harvest. When those apples are now all abundant and you’ve got all these apple trees, instead of paying tax on the seed that you originally planted, you’re going to pay taxes on all of those apples. So, little by little, you saved, you saved, you saved, now you’ve got $1,000,000 in retirement accounts, and all of that money’s taxable to you.
So, there are some opportunities to think strategically about which asset you’re going to touch first, and which asset you’re going to delay taking the longest. And some people might want to be considering things like ROTH conversions and diversifying those future tax liabilities. So, I think that’s important to consider, is taxes. It’s not a primary concern, but it is definitely … We don’t want to … Some people will, again, put the cart before the horse. They’ll make tax decisions without understanding how it impacts the plan, and all it’s going to do is make them run out of money too early. So, we don’t want that to be the case.
So, the other one is healthcare, making some projections and stress testing. Saying, you know, if a spouse dies, is my spouse going to have enough money to be able to maintain their lifestyle. If a spouse needs something like long term care, are they going to have the resources available to them? And I have to tell you, Medicare is … As wonderful as a benefit as it is, it can be really confusing.
You’ve got Medicare Part A, Part B, Part C, Part D. Those Part C plans are called Medicare Advantage plans, they change from which county you live in, all over the country, so different plans available to different people that offer different coverage levels. Getting in and out of plans, and when open enrollment season is, so, spending the time to really understand how Medicare works, how health insurance works in retirement, that’s an investment in knowledge which is probably one of the best investments you can make, which brings me back to our sound retirement planning blueprint. You want to let our listeners know how they can find that.
Emilia: Yes, you can go to our website, soundretirementplanning.com and click on the blue box on the right hand side. It’s Sound Retirement Blueprint, and it’ll guide you through the video and we hope that you get to take a look at that and learn a lot, and let us know if you have any questions.
Jason: One of my concerns when we do a show like this that is more technical in nature is that we lose people. So, that’s why we created the video. I like working with engineers because that’s the way my mind works. I’m more technically oriented, but a lot of my friends tell me, “Jason, you need to help paint a picture for people.” So, my hope is that maybe through going to the video, they’ll be able to get a better picture of what we’re talking about. But, Emilia, thank you for helping be a guest on Sound Retirement Radio this morning.
Emilia: You’re welcome.
Jason: For our listeners, until next week, this is Jason Parker, signing out.
Announcer: Information and opinions expressed here are believed to be accurate and complete for general information only, and should not be construed as specific tax, legal or financial advice for any individual, and does not constitute a solicitation for any securities or insurance products. Please consult with your financial professional before taking action on anything discussed in this program. Parker Financial, its representatives or its affiliates have no liability for investment decisions or other actions made by you based on the information provided in this program. All insurance related discussions are subject to the claims paying ability of the company. Investing involves risk. Jason Parker is the President of Parker Financial, an independent fee based ROTH management firm located at 9057 Washington Ave. NW Silverdale, Washington. For additional information, call 1-800-514-5046, or visit us online at soundretirementplanning.com.