As a financial advisor, how many times have you heard this one: “So, when do you think I can afford to retire?” It’s one of life’s really tough questions, and, by all appearances, more Americans are turning to their advisors for an answer. In fact, according to the National Association of Plan Advisors (NAPA), more than 70% of 401(k) plan participants cite generating adequate retirement income as their number one concern. The good news is that you should be particularly well-equipped to give them one.
We’ve talked before about taking a holistic view of your clients’ assets…well, this might be the ultimate use of that aggregate look. In practice, helping clients determine if they can afford to retire will require you to identify all the critical variables for their financial security and success. That’s a lot of fact-finding.
You’ll need to discuss variables including your client’s savings rate, earnings curve, inheritances, personal and qualified plan assets, risk tolerance and, of course, life expectancy. But you’ll also need to make a few qualitative assumptions about personal issues like college expenses, vacation homes, healthcare and even inflation. (There is, after all, a big difference between living in Boise and San Francisco.) And, as much as we might like, we can’t forget the dues we owe to Uncle Sam.
Armed with that good information, and good financial planning software, you can then discount all those cash flows back into today’s dollars and compare the results: how many assets your client actually needs to be financially secure versus how many net financially productive assets he or she will actually have at different points in time. (Nothing’s chiseled in stone, of course, so don’t be afraid to run a number of models or “gap” analyses with various assumptions.)
On a graph, the results of your cash flow analysis will look something like the one shown below. The point where the upward sloping curve (the asset accumulation line) intersects with the downward sloping curve (the asset requirement line) shows mathematically where the client can afford to retire. There will be enough assets at that point to fund expected expenditures over a lifetime.