Part 1 – What a Planning Approach Can Do to Optimize Your Spendable Income in Retirement

Recently, I was interviewed by Ed Tyll, on TalkRadioX.com about a CNBC.com article that discussed ways to generate tax free retirement income.

One of the key interview points I made was that the over-riding issue should be maximizing a retiree’s after tax spendable income rather than simply minimizing taxes. Here is a comparison:

  • Investor A with $1 million invested receives $30,000 in tax free interest that he can spend.
  • Investor B with $1 million invested receives $50,000 in cash flow from a combination of investments, $20,000 of which is taxable, and pays $5,000 in taxes, leaving $45,000 to spend.

Which of these investors would you rather be?

The CNBC.com article focused purely on specific “product solutions”. While I’ve been known as a product guy, optimizing spendable income is best addressed through a planning approach which integrates product solutions to reflect individual circumstances. A product only approach addresses the problem too late; planning should start at least 10 years before retirement. And tax-driven solutions don’t address the characteristics of the income you get. For example, is that income stable? COLA-protected? And perhaps most important, will it last a lifetime?

Here’s the approach you should consider:

  • Create a Plan for Retirement Income (Plan) that lasts over your entire lifetime and that of your spouse.
  • Start the planning process by age 60 at the latest, or 10 years before you expects to drawdown from any Rollover IRA, or claim Social Security. This gives you the opportunity to take a number of critical steps:
    • Implement any Roth conversions under optimal tax circumstances
    • Move taxable account into tax deferred account, and add after-tax savings to those new accounts
    • Gradually reposition investment portfolio, e.g., move to higher dividend stocks
    • Purchase any life and/or long term care insurance, while younger and still healthy. At the same time, evaluate trading in existing life insurance or annuity contracts for ones that can deliver more income
  • Focus on maximizing after tax income that is predictable – certainty of income could well be more important than any tax attributes.
  • Minimize all fees. A 1% fee on a 5% retirement income yield reduces income by 20%: a 1% fee on a 10% compounding return reduces results by 10%.
  • Decide whether to pay down principal on any mortgage or to increase investment in tax deferred accounts.

In Part 2 that will follow in a few days, I’ll provide specific ideas that you can start using immediately. Be sure to watch for it.