With growing lifespans, rising costs of living and the death of corporate pensions, retirement has become unprecedentedly expensive, and most recent and soon-to-be retirees haven’t saved enough. In fact, a 2014 Wells Fargo study revealed that a full third of the middle class is contributing nothing to retirement savings vehicles, and the Boston College Center for Retirement Research has estimated that 53 percent of seniors won’t be able to maintain their lifestyles with what they’ve saved.
Even for seniors who do save, however, and particularly for those playing catch-up in their 50s and 60s, a host of unpredictable expenses threaten to eat away at their nest eggs. Job losses, disabilities and sickness among elderly parents threaten workers’ portfolios while they’re still growing, while market downturns, long-term care and unexpected health care costs can force recent retirees to downsize long before they anticipated.
Fortunately, there are a few ways advisors can help their clients prepare for these expenses while still saving enough for comfortable retirements. Combined with well-advised saving, investment and draw-down strategies, an understanding of these expenses can go a long way in preserving those clients’ hard-earned nest eggs.
Longevity and Death
“Longevity is great, but it does have its costs,” said Stein Olavsrud, FBB Capital Vice President. “An increased ‘retirement life expectancy’ means more risk and more years to cover in any retirement plan.” From market fluctuations to inflation to drawn-out healthcare expenses, just about every potential retirement pitfall is more likely to affect today’s long-lived seniors.
Given the events of 2000 and 2008, market downturns may be the most concerning risks for recent and soon-to-be retirees. “Downturns are the biggest risks when we’re talking about the whole retirement picture,” said Reno Frazzita, Secure My Funds founder. “In 2008 the market went down 40 or 50 percent, so anybody that was close to retiring and counting on that money to live off of was put in a tough spot,” he said, adding whether or not the near future brings a similar downturn, hard-to-predict fluctuations will more than likely affect Boomer retirees, especially those who overemphasize market-based assets.
Inflation is another increasingly large risk, particularly for fixed income clients already in retirement. Social Security’s CPI-W-based cost of living adjustment doesn’t include many of the goods and services most important to seniors, and the 401(k)s and IRAs future retirees will rely upon don’t feature inflation protection. “Over time, your retirement income is going to buy less and less, and you’re going to have to start withdrawing from and relying more on your retirement savings,” said Frazzita.
How should these risks change clients’ retirement plans? “If anything, longevity just heightens the need to save earlier and more often and perhaps be more aggressive later in life,” said Olavsrud. “Clients playing catch-up in their 50s and 60s may have to turn to investments with more risk and more growth potential to get them through 95, since a more conservative portfolio might only take them to 80 or 85.”
Considering the risks of an equities-heavy portfolio, however, guaranteed income vehicles may make more sense for clients who plan far enough ahead. “Life insurance is a good way to pass on assets, but not everyone can qualify later in life, and annuities are the next best option,” said Frazzita. For many of his clients he recommends laddered annuities, purchased and drawn upon at different times to hedge against inflation and unexpected hits to other assets. “It’s important to have an income strategy that allows for incremental increases in income over time,” he added. “Annuity ladders are great because if inflation doesn’t rise, those annuities can be used for something else.” Overall, this and other guaranteed income strategies offer retirees the best of both worlds: they can rest easy knowing they’ll have enough to pay their bills, but they don’t have to worry about missing out on opportunities should they have the extra money, he said.
Finally, while Social Security shouldn’t make up the majority of clients’ portfolios, it’s still a solid way to protect them from a variety of risk factors. “Social Security can be viewed as a ‘triple hedge’ against poor market returns, inflation and longevity,” said Olavsrud. “In fact, it’s almost an insurance policy to delay the benefit as long as possible.” For healthy clients who can afford to draw upon other assets first, delaying benefits is almost always a good strategy to create a larger stream of guaranteed, inflation-protected income.
Planning for Healthcare Costs