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What is going on, everyone?
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Welcome back to my podcast called Financial Planning for Those Retiring in Five to Ten Years.
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My name is Colin Hayes.
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I am your host.
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And in this episode, I want to talk about a married couple that I recently started working with.
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Their names are John and Sarah, and they are both 55 years old.
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They came to my office with a question that I hear all the time.
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Are we actually on track to retire?
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We are five to ten years out until we want to retire.
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Are we on track?
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And this is a common question that I get asked.
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Just so you know, I have changed their names and some circumstances to protect their privacy.
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But here's the thing.
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They have saved consistently throughout their careers.
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They had good incomes.
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They had nearly two million dollars saved for retirement.
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Now, you might be listening to this and you might have more than two million, you might have less than two million.
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The amount doesn't matter as much as I want to talk you through what exactly financial planning looks like for this couple.
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From the outside looking in, most people would assume they are set.
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You have two million dollars saved, your house is gonna be paid off before you retire, you're gonna be set.
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But here's the thing they did not know how much money they could spend in retirement.
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They didn't know if they were paying more taxes than necessary.
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They were voluntarily overpaying in taxes.
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And they definitely didn't know what would happen if the market declined right after they retired.
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So they came into my office, we sat down, and we didn't talk about investments.
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I didn't immediately say, hey, you should buy this product, you should put your money here.
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The first conversation wasn't about rates of returns.
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It wasn't about the different funds or ETFs or mutual funds that they owned.
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Instead, the focus was on their goals.
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What does retirement look like for them?
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What do they envision their retirement to be?
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How much would you want to spend each year in retirement?
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Do you want to travel?
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What do you prioritize?
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Do you want to buy a second home?
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Do you want to downsize in your current home?
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Do you want to help your children someday?
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Do you maybe want to continue working but not full-time, part-time, more of a passion project?
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Because before I can build a financial plan, I need to know what we're planning for.
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Before I can recommend an investment portfolio, I need to understand what you are planning for.
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Without knowing the destination, it's pretty much impossible to build the roadmap.
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So we sat down and had that conversation.
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Then I gathered all the information.
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Their 401k statements, their IRA statements, their Roth IRA statements, their brokerage account statements, their bank account statements and values, their social security estimates, their estate planning documents, their tax returns, what's left on their mortgage.
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Anything with a dollar sign, I tell my clients, I can help them with.
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So I gathered information.
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Once I had John and Sarah's information, all their accounts, I gathered the information.
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Then I went to work and started building their retirement plan.
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Not just some random projection that said you have this much, you can spend 4% and you're done.
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No, a real plan.
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I modeled different retirement ages.
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If they retired at 62, 66, 70, what does that look like?
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Different spending levels.
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If they retired earlier, how much could they spend without running out of money?
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If they wanted to work part-time, could they retire from their full-time job and spend a little bit more?
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What if we had a higher than expected inflation?
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What if inflation is 3.5%, 4% versus the average around 2.5%?
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What happens if we get poor market returns early in retirement?
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How do we plan for that?
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What happens if they want to retire before 65%, before they get on Medicare?
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How do we plan for healthcare costs and can we afford to do that?
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What about longevity?
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John and Sarah talked about their family and their family health and longevity.
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Let's bake that into the plan so we're not just guessing, we can make an educated guess on
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their longevity of life.
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The goal is not to predict the future, the goal is to understand how different situations can affect their retirement.
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So we built their retirement plan.
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We did all these different scenarios that they wanted to look at that I put together, we sat down, we talked through them, and we helped them understand and get clarity and confidence in their retirement plan.
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But as I was going through this, I found a tax problem.
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A tax problem that, like I said at the beginning, on paper, everything looked right.
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But they didn't know they had this tax problem.
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As I reviewed everything, almost every dollar that they have saved was in pre-tax accounts.
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Think traditional IRAs or traditional 401ks.
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Now that's not necessarily a bad thing, but eventually, with pre-tax accounts, the IRS, Uncle Sam, he's gonna want his share.
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If nothing changed with their plan, required minimum distributions starting at 75 would eventually force them to start withdrawing money from those accounts more than they needed.
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And because they had saved so much in pre-tax accounts, those future withdrawals could become fairly large.
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And large RMDs can create a chain reaction.
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They can push you into higher tax brackets, they can cause more of your Social Security benefits to become taxable, they can potentially increase your Medicare premiums with Irma, and they can also reduce the flexibility that you have when deciding where your retirement income comes from.
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This is something they had never thought about.
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While on paper everything looked good, there was a blind spot they didn't know they had.
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This is where planning in John and Sarah's case became really valuable.
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We talked through their scenarios and they decided they wanted to retire at 62.
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But they weren't planning to claim Social Security immediately.
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We talked about when they wanted to claim Social Security, when the breakeven analysis was, when it made sense for their plan, and it made sense to not take it yet at 62.
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And RMDs don't start until their mid-70s.
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So this created a window of opportunity.
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For several years after retirement, their taxable income would likely be much lower than it had been during their working years, right?
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They went from working, full-time jobs, had good income, retirement, their income's gonna drop.
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Their taxable income is gonna be lower.
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Those years before claiming Social Security, before withdrawing out of IRAs, before RMDs, can be an ideal time to consider Roth conversions.
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The goal here is not to avoid taxes, it's to be intentional about when you pay them.
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Sometimes, in this case, we have low taxable income.
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Can we fill up our 10, 12, 22% bracket potentially with Roth conversions, pay a little bit of tax today, but over the course of your retirement pay less taxes, cumulative taxes?
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Tax planning within financial planning is not about lowering your taxes in the current year, it's about looking at your lifetime tax bill to what can you do to potentially lower your taxes, your cumulative taxes over your retirement?
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So I modeled different scenarios.
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What happens if they did no Roth conversions?
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What would their expected lifetime tax bill be?
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What happens if they converted a portion of their large IRA, their large pre-tax accounts each year until they claim Social Security?
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How does that impact their future RMDs?
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How does that affect their cumulative lifetime tax?
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Now, I will say a lot of people love Roth conversions and you might see these all over social media.
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And truth be told, it really depends on the situation.
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That is why when I see clients like John and Sarah who have majority of their assets saved in pre-tax accounts, I want to build out these scenarios and just show them the trade-offs.
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Instead of just guessing or instead of saying no, there's no option, I just want to show them the options, help them make an informed decision about their money.
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So that is a tax problem that we found that they didn't know they had.
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As John and Sarah go from working, earning income to now living off their portfolio, we had to put together an income strategy.
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Where will their retirement paycheck actually come from?
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And which accounts should they withdraw from first?
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Obviously, if they have a lot of their money in pre-tax and they do no Roth conversions, there's not many account types to pull from.
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It's all mostly pre-tax.
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But in your scenario, you might have a balance of pre-tax accounts, Roth accounts, and taxable brokerage accounts.
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How do you balance in what order should you withdraw from those accounts?
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Because
all those accounts are taxed differently.
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How do you create income for retirement while also keeping your taxes under control?
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These income decisions are not just about having enough money.
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It's about using it efficiently.
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How do we efficiently withdraw our money for retirement?
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I know I mentioned this earlier, but we looked at their social security options.
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When should they both claim?
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Should one of them claim early?
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Should they both claim early?
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Should they both wait until 70?
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Should one claim early?
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One delay.
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In this case, John was the higher earner, so it made sense for him to delay as long as possible because of survivor benefits.
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The surviving spouse will receive the higher of the two Social Security paychecks.
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So John had the higher benefit.
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It made sense for him to delay while we could be flexible when we claimed Sarah's Social Security.
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But there isn't just one answer that works for everyone.
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By modeling different strategies, they could see how each decision would affect their long-term retirement plan.
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And finally, if you can tell, this is the last thing I talk about where you might experience where it's the first thing talked about in other meetings with advisors, we talked about investments finally.
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We didn't start with them, we ended with them.
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Because investments are just one tool inside of a much bigger financial plan.
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Once I understood their retirement goals, their tax strategy and situation, their income strategy, their social security strategy.
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After I understood those things, then we talked about whether their investment allocation that they currently have supported their plan.
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And if it didn't, what do we need to do to make sure that the investment allocation supports their plan?
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Sometimes people are taking far too much risk than they need to be taking.
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Sometimes people are being way too conservative and unknowingly limiting their retirement options.
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The investment strategy should support the financial plan, not drive it.
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This is why I always say your investments are not your financial plan.
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I've heard that before.
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My financial plan, I have a financial plan.
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I have these five mutual funds.
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That's my financial plan.
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But a financial plan is not just your investments.
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A financial plan coordinates everything.
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Your investments, your taxes, your retirement income, your estate plan, your social security strategy, healthcare planning, all working together towards one goal.
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Your dream retirement.
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So if you're in your 50s and retirement is five to ten years away, these are the exact conversations that you should be having.
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Because many of these planning opportunities that I talked about today and in other episodes, like Roth conversions, tax efficient withdrawal strategies, Social Security planning, they need time to work.
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So you can't wait until you retire.
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You need to start planning while you still have time, while you still have options.
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So if this sounds like the type of relationship you want to have with a financial planner, I would love to have a conversation with you.
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Whether you're five years away, ten years away, or just starting to think about retirement, having a conversation and getting a plan in place today can give you more clarity and confidence about tomorrow.
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Thank you so much for listening and I'll see you in the next episode.
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This is a hypothetical situation based on real life examples.
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Names and circumstances have been changed.
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The opinions voiced in this podcast are for general information only and are not intended to provide specific advice or recommendations for any individual.
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To determine which strategies or investments may be suitable for you, consult the appropriate qualified professional prior to making a decision.