Match retirement cash flow with clients’ long-term goals
Don't assume that clients intend to spend their principal in retirement.
Retirement income continues to be a key focus for retirement savers, and while most retirement planning software defaults to the assumption that retirees would be fine with consuming their principal to fund their retirement, this may come as a surprise to many clients, who instead plan to rely only on income generated from their portfolio. In fact, recent J.P. Morgan research revealed that nearly 7 out of 10 individuals are concerned about outliving their money in retirement.
For this reason, it’s critical that advisers ensure their clients understand the various retirement income options available, including the various pros and cons:
- Total return: Where investment returns exceed spending. This approach allows for a bigger legacy and is easier for those with a pension and low expenses relative to the amount they have invested. It may be unattainable for others.
- Preserve principal: Where individuals spend only the investment return. This can help give peace of mind and curtail overspending. Principal is usually subject to a decline in value, which may be overlooked by clients, and it can be risky if there’s a stretch for yield and lifestyle may be unnecessarily constrained.
- Spend principal: Consuming earnings and a portion of principal. This approach is less reliant on income-generating investments and may allow for higher spending, resulting in nervousness when there’s market volatility.
Once clients are aware of the various approaches, and what may be best suited to their circumstances, settling on the most appropriate strategy to help them achieve a secure retirement should be a priority.
Ideas for clients who are concerned about market risk or are reliant on principal withdrawals include:
- Creating a long-term care plan. Almost all clients will benefit from this, and it’s more critical if there may be few assets left toward the end of their life.
- Setting up a dynamic withdrawal strategy. This might include not taking as much of a “raise” for inflation or deferring a big optional purchase, such as a new car, after a market decline. Conversely, the year after the market goes up, spending may be increased a little. Agreement on the rules up-front can avoid negative surprises.
- Considering an annuity. If clients have difficulty sorting out what’s a discretionary expense, a simple approach may be to use an annuity for stable expenses and rely on other investments for variable costs, as outlined in the 2022 Guide to Retirement.
By laying out the pros and cons associated with various retirement income approaches, advisers can effectively guide clients on the appropriate strategy to meet their retirement objectives. There’s no right or wrong answer here — just an informed decision that should be tailored to ease the way for nervous clients, regardless of their retirement income source.
Sharon Carson is a retirement strategist at J.P. Morgan Asset Management.
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