A New Year's Checkup for Financial Success in 2020 and Beyond

As 2020 kicks off, it’s a great time to make sure your savings and investments are aligned with your goals and not creating unnecessary taxes. Here are some key steps.

Figure out how much income you’ll need in retirement.

You can do it at any age, but it’s especially important in your 50s and 60s. Many people can calculate it themselves using a retirement calculator on the web. Searching for “retirement income calculator” will give you a number of choices.

If you don’t feel comfortable doing this, consider hiring a well-qualified financial planner who can give you an unbiased figure.

Once you’ve got an estimate, you can start structuring your savings to produce the necessary income. While savings accounts and stocks can produce income, the income stream they produce varies.

Only three things offer a guaranteed lifetime income: a traditional employer-provided pension (which is rare now), Social Security and a lifetime income annuity. The latter allows you to create your own pension by converting a portion of your savings to a stream of income. It serves as longevity insurance.

Estimate your 2019 federal and state income taxes and look for opportunities to reduce them.

If you’re holding all your savings in taxable accounts, you probably have an opportunity to reduce your taxable income by moving some money to tax-free and/or tax-deferred accounts.

Contributing to tax-deferred retirement accounts, such as a 401(k) or a standard IRA, or to a tax-free Roth IRA is the first line of defense. If you can afford to set aside additional money for the long term, consider also purchasing a deferred annuity. Annuity interest is not taxed as long as it’s reinvested in the annuity and not withdrawn.

Deferred annuities come in several flavors. Fixed-rate annuities act much like tax-deferred certificates of deposit. Fixed indexed annuities provide market-based growth potential plus guaranteed principal, and variable annuities let you participate in the stock and bond markets but put your principal at risk.

Check your asset allocation and rebalance if necessary.

An asset allocation plan means that you set the percentages you put in equities (stocks or stock funds) and in fixed income, which includes savings accounts, money markets, CDs, bonds and fixed annuities.

If you’re overinvested in one area, such as equities, because of the rise in the stock market, you should rebalance to achieve your desired asset allocation. Your asset allocation should not change much in the short term. Let’s say you put 55% in equities and 45% in fixed income two years ago. Thanks to a booming stock market, your allocation now stands at 65/35. It’s time to consider rebalancing to bring it back to 55/45 again.

As you age and approach retirement, your asset allocation will usually change, with less money in stocks and more in guaranteed safe investments. Once you’re retired and begin withdrawing your savings, you’ll likely want to become even more conservative.

Sticking to your asset allocation decreases excessive risk and prevents you from buying high and selling low. When the stock market falls, you’ll be less tempted to sell everything because you’ll also have a solid cushion of fixed assets. Many people without a plan panic and sell their stock funds at exactly the wrong time, when the market is at a low point.

You’ll also be able to resist overinvesting in the stock market when it’s reaching new all-time highs. When there’s a strong bull market, it’s easy to forget that what goes up will come down eventually.

The right asset allocation is individual. Besides your age and expected income in retirement, your psychology is important. Some people are very risk-averse. Others don’t mind the ups and downs of the stock market too much.

Consider fixed annuities as part of your safe-money allocation.

Fixed annuities offer many advantages as part of your fixed-income allocation.

Bond funds can be a good choice, but you can lose money in them. If rates spike up after you buy a fund, your bonds’ value will decline. Long-term bond funds can be especially volatile.

With a fixed annuity, both principal and interest are fully guaranteed by the issuing insurance company. State regulators monitor the financial strength of insurers. State guaranty associations provide an additional level of protection.

Fixed annuities let you reinvest interest earnings without risk. With fixed-rate annuities, reinvested interest earns the same rate as the base annuity, so the yield is guaranteed.

Annuities are tax-deferred. All interest earnings left inside them compound tax-deferred until withdrawn. You can wait until retirement, when your tax bracket is likely to be lower, to start receiving payments.

Fixed annuities do have less unpenalized liquidity than bond funds. You can always cash them in, but you may pay a fee for an early surrender. Also, interest earnings withdrawn prior to age 59½ are subject to a 10% IRS penalty.

Because annuities are less liquid than bond funds, you probably wouldn’t want to put all of your fixed-income investments in them. But there is some liquidity. Many fixed annuities let you withdraw up to 10% a year penalty-free. They’re thus more liquid than CDs, which usually have penalties for early withdrawals of any amount.