Making a retirement nest egg last a lifetime isn't getting any easier. What if smart retirement planning could squeeze five more years out of what you've saved for your golden years?
If you're not thinking about making your retirement money last longer, you should be. 401(k) and IRA balances are shrinking. Everything costs more than it used to. Blame stock market swoons and income-eating inflation. Higher borrowing costs sting, too. And don't forget the fact that people are living longer.
There's good news, though. You can pull financial levers to repair a cracked nest egg or earn more income. And, more important, you can stretch your retirement dollars so they last at least five years longer than you initially planned.
Finding ways to generate more income during retirement is at the top of every retiree's and aging worker's wish list. Especially now that challenges to a secure retirement are piling up. Recent surveys highlight the difficulties retirement savers face:
- One in four workers say inflation has forced them to cut how much money they set aside for retirement savings, according to the TIAA Institute and George Washington University School of Business.
- The average American's retirement savings are a third less than what age- and salary-based savings milestones say they should be, personal finance site DollarGeek revealed.
- The average 401(k) balance of Vanguard plan participants at the end of 2022 was $112,572, a 20% drop from 2021, Vanguard data show. And the median balance fell 23% to $27,376, meaning half of 401(k) savers had less than that amount.
- Eighty percent of people 60 or older (47 million people) don't have the resources to cover long-term care, the National Council on Aging says.
So, what's a retirement saver to do besides spend less? Here's a list of top tips to help add five years to your nest egg's life span.
1. Make Cash Work Harder With Retirement Planning
If you've got a six-figure stash of cash sitting in a checking account earning zero interest, shame on you. Thanks to aggressive interest-rate hikes by the Federal Reserve, you can earn 5% or more on one-year CDs and 4.75% on some money markets, according to Bankrate.
"The first thing I'd do is get that free cash invested," said Rhian Horgan, CEO of Silvur, a retirement planning company. "The difference in yields is pretty significant."
No doubt, it's time to turn your dead money into an income stream. Why leave money on the table due to inertia. Stashing $100,000 in a one-year CD earning 5% will net an annual return of $5,000, adding $417 to your monthly income. Move idle cash to a higher-yielding account, even if that requires switching banks.
2. Get A Raise From Social Security
Everyone loves getting a raise at work. But a lot of people pass up an 8% pay boost from Social Security. Remember, the government will boost your Social Security payout by 8% for every year you delay taking Social Security after you reach full retirement age up until age 70. "That's a pretty compelling risk-free return," Horgan said.
Let's say you turn 62 this year and are eligible to take Social Security, albeit at a reduced payout. If you instead forgo taking benefits this year and have the financial means to wait until 70 to start receiving Social Security, you'll get a 77% higher benefit over the remainder of your life, according to an analysis by Wade Pfau, author of "Retirement Planning Guidebook: Navigating the Important Decisions for Retirement Success."
The benefits of delaying Social Security until 70 are twofold. "More of your spending starting at 70 will be covered by Social Security and less needs to be covered by your portfolio," said Pfau. "That helps prolong your portfolio for longer." A bigger Social Security paycheck also is a form of insurance in the event you live well past your life expectancy.
This strategy has its risks, too. Social Security's financial outlook is murky at best. The trust fund that writes the checks to retirees is on schedule to be depleted by 2034, says the trustee's report. Without government action before then, the fund can only afford to pay less than 80% of benefits starting in 2035.
3. Retirement Planning: Consider A Roth IRA Conversion
Another way to extend your retirement nest egg's life span is to diversify your investments from a tax standpoint. Having all your money in a traditional 401(k) or IRA isn't the most tax-efficient strategy. Why? Because all your withdrawals will be taxed at your regular income rate, which can eat up a lot of your savings.
To combat that, especially if you expect income tax rates to be higher in the future, consider converting assets in traditional retirement accounts that were funded with pretax dollars into a Roth IRA. A Roth comes with two great perks: tax-free withdrawals and no required minimum distributions (RMDs). Not having to pay taxes on withdrawals and being able to let your money grow forever without having to make a withdrawal will help your nest egg last longer.
The retirement planning catch, of course, is you will have to pay taxes on the dollars you roll over to a Roth IRA. To minimize taxes, do the conversions over several years to avoid having that extra income push you into a higher tax bracket. "I call it tax-bracket management," Horgan said. You might, for example, only convert the exact number of dollars to a Roth IRA until you hit, say, the top band of the 12% tax bracket or the 22% bracket, depending on your income.
"By diversifying your retirement accounts from a tax standpoint, you can create tax-free income for yourself in the future and for your heirs," said Rob Leiphart, vice president of financial planning at RB Capital Management. "Now you have choices, different buckets to pull from."
4. Combine Social Security Raise With A Roth IRA Conversion
You'll get more bang from your retirement-planning buck by combining tips two and three above. Employ an aggressive Roth IRA conversion strategy in the years from 62 to 70 while you're delaying taking Social Security, Pfau advises. Rolling over a traditional 401(k) or IRA into a Roth IRA is a way to lock in tax-free withdrawals for life.
So, why do these dual strategies work best in tandem? If you're 62 or older and retired and not yet taking Social Security, you probably won't have a lot of other income. And that's important. Why? Because the value of all your assets rolled over from a 401(k) to a Roth IRA are taxed at your ordinary income tax rate.
So the lower your income (and it will be smaller without a Social Security check), the tinier the tax hit will be for the conversion. If you're still working, though, this strategy may not work as the tax bracket may be higher.
"The idea is to start triggering taxable income when you're still in a relatively low tax bracket," Pfau said. That lower rollover tax bill means you'll keep more of your money. And that will boost the growth and compounding potential of the tax-free Roth IRA. Spreading your Roth conversion dollars over a few years is also likely to save you on taxes.
5. Earn Income With Covered Calls For Retirement Planning
One conservative stock options strategy that generates a steady income stream (and captures some upside in a stock) is the covered-call strategy, Leiphart said. Calls give buyers the right to buy a stock at a set price and time. "Covered call" refers to selling calls on stocks you own. Each contract equals 100 shares.
Here's how covered calls work and how they can boost your nest egg's income stream. Say you own 100 shares of Apple at $170 a share, but don't think the stock has much upside this summer due to market headwinds. You can sell an Apple covered call that expires on Aug. 18 at a strike price of $180 (the price you agree to sell at) for $5.55.
You'll get to immediately pocket the $555 premium from selling the option (100 shares x $5.55). "You always get the premium," said Leiphart, no matter how the shares perform. If the stock reaches $180, you can either sell it and take the nearly 6% appreciation, or buy back the covered call. Of course, if you're wrong and Apple rallies well above $180 to say, $200, you'll miss out on $20 per share of upside.
The goal of writing a covered call is to use the premium to generate reliable income, like clipping the coupon on a bond. "Retirees may be limiting their upside, but they're still getting some stock upside plus the guaranteed premium (or income)," Leiphart said.
6. Invest Outside Retirement Accounts
There's no law that says you can't save for retirement outside of 401(k)s and IRAs. "But that's where most people's saving ends," Leiphart said.
If you have the cash flow, and you have maxed out your retirement accounts, continue investing in a taxable brokerage account. Not only will it boost assets available for retirement, it will also give you more flexibility to make withdrawals in the most tax-efficient manner.
Capital gains tax rates peak at 20% for assets held more than a year, but the IRS says most people pay 15%, and some pay zero if their income is low enough.
Investing in a health savings account is one savings tool to consider. HSAs allow you to save with tax-free dollars, get tax-deferred growth and also withdraw money tax-free. "It's a triple-tax benefit," Leiphart said. (Learn more about health savings accounts and see IBD's list of the 13 Best HSA Accounts for 2023.)
While distributions must be used for approved health expenses, it means you will have to yank less money from your 401(k) to pay health-related bills.
7. Max Out 401(k) Contributions And Play Catch-Up
Many people think they're maxing out their 401(k)s. But that's not always the case. Many people fail to boost the percentage of their pay deduction that goes toward their 401(k) when the IRS increases the maximum contribution limits.
For example, this year you can funnel $22,500 into your 401(k), up $2,000 from 2022. Similarly, the catch-up contributions for folks 50 or older has increased $1,000 to $7,500.
And don't forget, additional savings are possible with nondeductible IRAs. These won't give you the deduction when you contribute, but can still delay taxes on earnings.
8. Get Professional Retirement Planning Help
Research from Vanguard shows that taking a holistic view of your portfolio and executing a plan with the help of a financial advisor can boost your net returns by 3% a year. This approach is all about executing the basics, such as using low-cost funds, rebalancing your portfolio regularly, receiving behavioral coaching from an advisor, having the right mix of taxable and tax-deferred investments, and knowing when and how to withdraw money to minimize tax drag.
"Even modest shifts in net take-home returns can be meaningful and extend out one's retirement savings," said Matt Fleming, senior wealth manager at Vanguard.
9. Avoid Unforced Errors
Don't shoot yourself in the foot while retirement planning, says Lamar Villere, portfolio manager at investment firm Villere & Co. Unforced errors to avoid include overspending, panicking and selling at a market bottom, and not having a financial plan to guide you through turbulent times.
"You have to control what you can control," said Villere.
10. Move To A Cheaper Locale
A big expense in retirement is the cost of living, including housing. "Where you live impacts how long your savings will last," said Horgan. If you want to extend the life of your nest egg, consider moving to a less-expensive part of the country where real estate is cheaper, taxes are lower and health care costs don't bust the budget.
"It could be the difference between your money lasting until you're 90 or 100," said Horgan.
