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New Approaches Needed For New Discipline Of Income Planning

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If the word is starting to get out on income planning, certain actions need to follow, said two leaders of a course on managing retirement income held during the recent annual meeting of the National Association of Variable Annuities, Reston, Va.

One action point concerns the effectiveness of current withdrawal techniques, said Richard Reilly, a financial planning and income planning specialist based in Needham, Mass. He asked the class of about 25 participants whether the current concept of a withdrawal ratio makes sense.

The withdrawal ratio is used to draw off investment income without affecting principal. “Are people underestimating it or accurately estimating it?” Reilly asked.

It is an average and not a constant, he noted. In the early years of retirement, a retiree may need all of that income, in mid-retirement years, perhaps 80%, and in later years, maybe 60%, Reilly continued. Needing so much in the early years is a big risk to principal, he said.

“This is not a flexible tool. We have to figure out how to build something that you can tinker with,” he observed.

In fact, Reilly said, there is a need to create ‘decumulation’ models for income planning. The focus has not yet been shifted from asset accumulation, he said.

Companies need to think about income planning tools differently than those for accumulation in order to give producers the tools they need to help people make decisions, Reilly continued.

Reilly also raised the point of whether insurers are pricing products in a way that makes sense for what they want products to do for clients.

In addition, anyone offering income planning services needs to consider points such as what early retirement can mean in terms of income planning, he said. If, for example, a husband has a greater Social Security benefit than his wife, takes early retirement and then predeceases his wife, the ongoing benefit for the wife is going to be less than what she would have received if the husband had worked to full retirement age, he said.

Another issue to consider is how realistic are the retirement assumptions made by baby boomers and their advisors, Reilly said. For example, he said many boomers plan on working after formal retirement so they project a salary as part of their income flow. But how realistic is that assumption? he asked.

Before affirming that assumption, one must consider the quality of work that is available, how physically and mentally capable boomers will be at retirement, and just how meaningful the post-retirement employment will be as a portion of the full income stream, he said.

Reilly indicated he is personally skeptical that continued work will provide a meaningful portion of income.

Yet another issue the industry needs to address is tax treatment, he said. There needs to be a discussion of how to reach after-tax dollars most effectively, according to Reilly.

People don’t want to spend principal, but it might be more tax efficient to do so, he said. The issue is one of whether the boomer wants to leave a bequest or not. If the latter is the case, he said, then using an asset such as a Roth IRA–in which withdrawals can be made without tax–can be a good way to create regular income.

Michael Zmistowski, a financial consultant with First Gulf Advisors, Tampa, Fla., presented other options such as using home equity to create income and just using restraint in consumption to reduce expenses.

Zmistowski reiterated the point that in the early years of retirement, it is important not to withdraw too much. One consideration, he added, might be to use home equity if there is a gap in income due to a market downturn in the early years of retirement. When the market rebounds, the boomer then can repay the loan, he added.

Another option, he said, is downsizing.

With regards to spending less, Zmistowski said there is often a bridge between what people realize they should do and what they actually do. For instance, while a client may understand that it would be financially beneficial to live in a less expensive city, the client is not necessarily going to take action to implement that change, he said.

Other considerations Zmistowski discussed to ensure income included laddering annuities and using an immediate variable annuity as a risk hedge in tandem with a systematic withdrawal program from a fixed immediate annuity.

Zmistowski had seminar participants break into four groups and then asked those groups to identify risks they associated with income planning.

Among the recurring answers: health costs, inflation risk, longevity risk and market risk.

Others risks identified by one of the four groups included the risks of needing to help a family member financially, dealing with unfunded pensions and psychological problems.

Commenting on the recurring responses, Zmistowski said there seems to be an “intuitive knowledge” of what these risks are.

This article originally appeared in the November 2005 issue of Income Planning, an online publication of National Underwriter Life & Health. You can subscribe to this monthly e-newsletter for free by going to

Among other things, there needs to be a discussion of how to reach after-tax dollars most effectively


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