Focus On All Aspects Of Life When Planning For Retirement
When it comes to retirement planning, too many of us focus only on the destination instead of the journey. A lot of things can happen along the way. These include, but are not limited to, life.
We often devise strategies to provide income in retirement. Or we view retirement planning as separate from all other planning. In fact, all planning must be integrated to deal with variables we cannot control. These variables include: changes in job or family status; changes in laws relating to taxes, employment, retirement or estates; shifting demographics; and risks, not the least of which is posed by the stock market.
Pre-retirement planning that addresses solely income deferral and investments does not make allowances for these variables. Often, we spend too much time dealing with asset allocation or the performance of a particular fund offered in a 401(k) plan. While these tasks are essential for long-term success, they should not be the sole focus of our effort. We must address these tasks in the context of the entire plan.
Long-term planning needs to be flexible enough for clients to tolerate unforeseen circumstances, whether temporary or permanent. Naturally, we would advise our clients to have disability and life insurance to protect them from major interruptions.
However, other factors can threaten the long-term success of the plan, particularly those we have no control over. What happens if the accumulation plan doesnt develop in a straight line and doesnt end at its highest projected point? What happens if retirement costs are more than imagined? What if the client lives longer than planned?
We could construct a linear model that represents the clients life to date. Changes in income, growth of assets, value of home, etc., can be plotted over time and average rates of increase calculated. We also could plot variables like tax rates and inflation rates over the same period and end with a mathematically correct model.
However, thoughtful reflection would reveal the growth did not happen in a straight line. There were highs and lows along the way. Good years, bad years and crises. Therefore, is there any logic in expecting we can develop a useful model to run on for 20 or 30 or 40 years hence? Probably not.
A better approach considers all aspects of a clients life and integrates wealth accumulation strategies to maximize the available pool of money as measured by: (1) dollars available; and (2) lifetime flexibility. This approach would integrate strategies to avoid excess risk, loss of control or access to accumulated assets and, particularly, unnecessary costs (including taxes, administrative and transaction fees, and term insurance premiums).
A good indicator of risk tolerance is to ask clients how much risk they would take with their invested assets if they knew they had more money than they ever thought they might need (i.e., they hit the lottery). Most people, if questioned, would actually take little or no risk with the money because they know they would not outlive it. Taking less risk allows them to avoid the stress caused by potential loss of assets that higher levels of risk imply.
Avoidance of fees and unnecessary costs increases wealth available over the long run. How often have we lamented on April 15 that if we had all the money weve paid in taxes over the years, wed have a lot less to worry about?
It is important to apply long-term strategies uniformly, not selectively. For example, if we are content to wait 30 or 40 years to accumulate “enough money” to retire, shouldnt we allow that much time to pay off our mortgage or accumulate equity in an insurance policy?