Should You Guarantee Your Retirement Income or Pay As You Go? 3 Questions to Ask
Pay as you go or turn some of your retirement savings into a regular paycheck? Answer these three questions to see which approach makes the most sense for you.
Do you need a steady paycheck in retirement, or are you ok with withdrawing money as you go? Not sure? Then you aren't alone.
We spend decades focused on accumulating money for retirement, but give little thought to how we'll spend it when we retire. Will we create a guaranteed stream of income deposited in the bank each month, or will we pay as we go, taking solace in the fact that the money is there when we need it?
The paths are vastly different. If you choose the guaranteed route, it means taking a portion of your savings and turning it into a steady paycheck, typically through an annuity. If you choose the pay-as-you-go route, it means making periodic withdrawals from your retirement account when you need the funds.
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Which approach is right for you depends on several personal factors: your cash flow (steady monthly income), longevity (how long your retirement will last), and temperament (your ability to manage withdrawals on your own)
The decision is not as clear-cut as saving money in a 401(k), is it? Before you decide if you need some guaranteed income in retirement, ask yourself these three questions.
1. Does your guaranteed income cover your living expenses and if not, are you ok with that?
For most retirees, fixed income comes from either Social Security, a pension, other income like real estate, or a combination of some of the above. That money replaces the paycheck from working and typically covers monthly expenses. Sometimes the money is not enough, and retirees have to tap their savings to make up the difference. If that sounds familiar and you're ok with that scenario, then you probably don't need guaranteed income.
But if you're not comfortable with that scenario, guaranteeing the portion of your expenses not covered by Social Security and other fixed income would probably provide peace of mind.
"I would argue that if you cover most of the essential spending with guaranteed income, that takes out a lot of stress in retirement," said Nick Nefouse, global head of retirement solutions and head of LifePath, Multi-Asset Strategies & Solutions at BlackRock.
The key is to guarantee some, not all, of your retirement income, warns Barb Pietrangelo, a financial planner at Prudential Financial Planning Services. After all, retirement can easily last 30 years, so you still need some of the money to grow and compound.
Pietrangelo says to tally your monthly expenses against your recurring income, then ensure guaranteed income fills any gap. "The general rule of thumb is 70% of spending, but that is not always true," said Pietrangelo. "Look at your checkbook or charge card for the last three to six months to see what you are spending on a regular basis."
The easiest way to turn retirement savings into a monthly paycheck is via an income annuity. With this, you get guaranteed income for life, but it comes at a cost. Accessing your money early means high surrender fees, and you'll have no built-in inflation protections unless you pay extra.
2. Will you be ok if the stock market drops and takes your retirement portfolio along with it?
One major benefit of guaranteed retirement income is freedom from market anxiety. Stock drops, high unemployment, or economic slumps won't stop your checks — unlike living strictly off an investment portfolio.
An investment portfolio fluctuates with the market, carrying inherent risk and potential losses. If you can handle market volatility and potential shortfalls, self-managing your withdrawals may work best. But if market swings will keep you up at night, an annuity offers a more reassuring alternative
"Would you be ok if the market dropped? Would you still have enough income to pay yourself forever? Most people wouldn't," said Pietrangelo. "With guaranteed, you don't have to worry about that. But always pair it with another savings vehicle."
3. Is certainty important to you?
Is longevity on your side? Are you worried about running out of money in retirement? If you answer yes to either question, then guaranteeing a portion of your retirement income may be for you. After all, by doing so, you ensure the money will last as long as you do. If you live to 100, you will get a monthly payout until then.
Plus, you'll know exactly how much you get each month. For some people, that certainty is all the permission to spend they need.
"People don't like talking about life expectancy; they like being certain about the ability to spend," said Nefouse. "With guaranteed income, you're more certain; you're more willing to take more risks, take that extra trip."
Take your time before deciding
Whether to guarantee income or withdraw as you go is as unique a decision as your retirement plan. But one thing is for sure: it's not something you should choose blindly. Both approaches have pros and cons.
Guaranteed income gives you peace of mind, but you give up growth and flexibility. Withdrawing as you go provides the potential for appreciation and continued portfolio growth, but there's also more risk. Ultimately, finding the right balance is about matching your money to the lifestyle and comfort level you want.
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