After spending your working years saving, strategizing, and managing your money to prepare for retirement, you may feel like taking a break from all that financial planning when you finally do leave the 9-to-5 world. But when your job ends, the work of retirement income planning begins.
Transitioning into the income producing phase of retirement doesn't have to be complicated. But these days in a low-interest rate world, there are some different challenges you need to address to make your portfolio pay you the income you need to make ends meet.
There's no need to scrap your entire financial plan. Instead, use these three strategies to ensure that you have cash available to cover your living expenses.
1. Hold on to dividend stocks longer
Until recently, conventional wisdom suggested that by the time you retire, you should have a much less aggressive allocation to stocks in your portfolio. Yet with many retirees facing 20 or even 30 years ahead of them, eliminating growth prospects from your investments is a big mistake.
In the past, you could expect bonds to pay more in income than dividend stocks, because bonds didn't have the growth potential that stocks offered investors. Therefore, investors demanded more income to offset the lack of growth.
Nowadays, though, you can find many conservative stocks paying healthy dividend yields. Look for stocks with long track records of rising dividends, and if you already have some in your portfolio, hold on to them for as long as they are serving your purpose. And if you're moving some of your money from riskier stocks into safer dividend-payers, keep an eye out for companies whose dividend yields exceed that of their corporate bonds.
Lastly, remember that even relatively "safe" stocks that pay dividends aren't as secure as holding Treasuries or bank CDs. However, they will help put more money in your pocket.
2. Build a cash cushion for your nest egg
One thing many retirees learned during the market meltdown in 2008 is that they had no choice but to sell stocks (companies that eventually rebounded) at low prices to provide income. A cash cushion would have enabled such investors wait out the bear market, let their investments regain their losses, and replenish reserves when stocks had rebounded.
A cash cushion can have anywhere from two to five years of expenses available. Even if that cash doesn't earn a high return, having it available prevents you from having to sell other assets when you don't want to. Consider having a cash cushion as insurance against market crashes.
3. Be smart about withdrawals
After you've accumulated assets in IRAs and other retirement accounts for decades, your retirement is when you should start drawing income from them. But keep in mind that how much you take and which accounts you draw from can have tax consequences.
In particular, pulling money out of traditional IRAs and 401(k) plans boosts your taxable income. That in turn can have collateral effects, including making more of your Social Security benefits subject to income tax, pushing you over certain thresholds for higher tax brackets, or causing you to lose certain tax advantages. If you have a Roth IRA, on the other hand, those withdrawals are usually tax-free.
By managing where you get money from, you can make sure you won't increase your tax bill more than you'd expect.
Start planning today
The best time to plan for your retirement income is before you retire. By setting up your finances to make a seamless transition into retirement, you can ensure that you won't have to shift gears abruptly and throw your investments into chaos.