Retiring is one of the most transformative events of your life, as you suddenly replace what occupied most of your waking life with long-delayed plans of leisure, hobbies, and other ways of spending your time. From a financial perspective, retirement also requires a major adjustment in how you think, as you have to replace the work income you relied on for decades with other sources of cash to make ends meet.
Adjusting your mind-set to get the retirement income you need doesn't have to be as difficult as it first seems. By taking into account three major sources of money for use after you retire, you can exit your career with a minimum amount of disruption.
1. Make the most of your monthly retirement income from Social Security and/or pensions
Most Americans have access to Social Security after they retire, with about 38 million retired workers currently collecting benefits totaling $49 billion monthly. With an average benefit of almost $1,300, Social Security represents almost 40% of older Americans' income, with nearly half of single retirees and more than one in five married couples relying on Social Security for 90% or more of their total income. Many workers who aren't eligible for Social Security have separate pension plans to provide for their retirement, and a few fortunate workers have access to both Social Security and a separate pension.
There's no one-size-fits-all answer for deciding when to take Social Security payments. In general, claiming earlier will get you money sooner while reducing the amount you get every month, whereas claiming later will boost your monthly payment but leave you waiting longer before you can tap into that income. Pensions have their own separate rules, and each pension plan has different guidelines on how to calculate benefits. The key, though, is to consider the rules governing your Social Security and pension benefits in the context of your own financial situation, including other sources of cash and your money needs. That perspective will let you use the many strategies covering Social Security in whatever way works best for you.
2. Tap into retirement income from investments
Social Security and pension income is important, but you should also have other sources of retirement savings to backstop what you receive from those programs. Maximizing your investment income from your retirement nest egg can help you supplement your other sources of cash, and doing so in a way that preserves the value of your portfolio can ensure that your savings will last throughout your retirement.
As conditions in the markets change, the sources of your retirement income will have to adapt with them. For instance, until five years ago, many retirees relied on bank CDs and savings accounts to provide income, with interest rates of 4% to 5% being relatively common. Now, rates in the 1% to 2% for even longer-term CDs have forced retirees to look at higher-yielding dividend stocks and other less conservative investments for income. Having a big helping of stocks with a track record of dividend growth can help your income keep up with inflation and your changing cash-flow needs, but letting the risk level of your portfolio rise too much will expose you to future market downturns, so balancing your portfolio with less aggressive investments can help make you more comfortable.
3. Spend down retirement savings prudently
Monthly income sources are great for regular living expenses, but you'll inevitably face unexpected major expenses that you won't be able to cover from regular income. Tapping into the principal of your retirement accounts can seem unwise, but even though you won't want to do so without good cause, it's important to recognize the value of using your assets rather than taking on high-cost debt or other alternatives.
One thing to remember is that most retirement accounts, including traditional IRAs and 401(k)s, come with a tax hit when you withdraw money from them. Therefore be sure to consider the taxes you'll owe when you take retirement-account withdrawals.
On the other hand, there are times when going beyond investment income makes perfect sense. For instance, if you invest largely in stocks that don't pay dividends but tend to see their share prices rise steadily over time, then liquidating small portions of those stocks in lieu of replacing them with income-producing assets can boost your overall return. So don't let the stigma of spending down principal stop you from being smart with your portfolio strategy.
Finding cash in retirement is the biggest financial challenge most people face in their lives. By being prepared beforehand, though, you'll put yourself in the best position to have a comfortable retired life when the time comes.
Dan Caplinger has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.