Hey, guys, Mike Frontera here. Back with another Retirement Theory video.
You know, one of the greatest challenges in retirement is figuring out how much money you can spend safely. And if you've spent any time on YouTube looking up retirement planning videos about spending, you'll see all sorts of different rules of thumb or this quick trick to get you more money or, you know, don't do this, but do this.
Well, I hate to be the bearer of bad news, but most of those are a complete waste of time. The reality is that increasing your retirement income properly in a way that actually nets you more money, is a much more complex process.
These increased spending tips require you to ignore a huge number of super important variables, like your age, your health. Are stocks cheap or expensive when you retire? Are you divorced? Might you get divorced? Your comfort level with market risk or inflation risk? Do you have a pension? When did you claim Social Security? Will you get an inheritance? Do you have a mortgage? What mix of account types do you have? IRA Roth, brokerage. And might you be getting a part time job?
So real beneficial planning is the proper coordination of all of these retirement resources toward well defined goals. In that is the heart of what proper retirement planning is all about. It can be complex. It can be time consuming and quite frankly, can benefit from real expertise.
Now there is good news. Good planning without taking on additional market risk can absolutely net you a richer retirement lifestyle.
So let's start with the problem with these rules of thumb or shortcuts toward increased retirement spending. And first let's acknowledge that these shortcuts have appeal because they are simple and they are easy to apply to your situation. The problem is they don't work in a real-world messy, real-life retirement.
Now, I recently debunked the popular 4% rule in a recent video of mine. The major takeaway wasn't that you could spend more or less. It was that the rule itself was so divorced from the reality of retirement that it was better to just disregard it all together.
Now, I'm not saying that these rules have zero applicability. I've done videos in the past on guardrails around your retirement withdrawals, and I think it's a great concept. And there are areas of your plan that you can plug that in, but it's kind of like watching, a golf tip video. You know, you see a video about, you know, how to keep your head down and that's maybe great in the broader context of learning how to properly swing a golf club. But just watching that one tip isn't going to turn you into Tiger Woods.
If you're like me and you watch one of those golf tip videos, chances are you end up worse than when you started. point is that none of these tips will work as a full solution. And if you apply it the wrong way, could actually make your situation worse rather than improved.
Now, once you acknowledge how many of these variables actually matter, the first logical step becomes very clear. Don't follow a simple rule of thumb for your entire retirement strategy.
Next, and this is a big key. Maximizing what you can safely spend in retirement starts with taking a step that most people skip. Accurately defining your expenses.
Now, I often say that cash flow is at the core of retirement planning. Why? Well, because all of your financial goals for you and your family cost money either now or some point in the future. So I want you to think about the fact that everything, every expense you want to cover in retirement is basically a future liability.
In other words, it is something that we have to allocate resources to, to cover at some point in the future. That means that you have to allocate a little chunk of your portfolio to that goal that you want to cover whenever it's to happen. in that system of allocating resources to your future expenses, provides a tremendous amount of structure and clarity to what is actually affordable.
And so when you skip that step, that sometimes boring step, of laying out your expenses, you end up with a retirement that is directionless in what is affordable and what isn't. know, without those expense goals. As your North Star, you can easily end up overspending in early retirement and depleting your savings too fast or much more commonly under or spend in retirement because you're so afraid of running out of money. and that can be a very heartbreaking outcome.
You get toward the end of your life and you realize you could have lived on so much more, seen more, experienced more, been more generous to family. if only you knew how much that you could safely spend.
And now a key part of this expense goal process is separating out your essential expenses from your discretionary expenses. So let's spend a minute on that.
Essential expenses. These are your must haves. Okay. And of course, we think of things like, housing, food, utilities. But essential expenses are also very personal to you. What items do you want to cover with as much certainty as possible? Even if the stock market has a bad year or a bad decade like it did in the beginning of this century.
Whereas discretionary expenses, these are your nice to haves. And this is where you have a lot more flexibility if things don't go well to dial those down or if things are going very well to dial them back up.
So now once you've defined these expenses, your next step is to project them out into the future. Now of course, different expenses are going to grow at different rates. You know, your property taxes and your utility bill pretty much are going to carry themselves through for your entire retirement lifetime. Whereas stuff like travel or going out shopping or dining, they may peak in early to mid-retirement and start to tail off or even stop as you get older.\
And so they may be planned out as a liability that has a lower rate of inflation tied to them. Or perhaps a set duration of time. I want to cover, expensive travel for the next 15 years.
Of course, you have to account for expenses that don't occur neatly every month or even every year. know, I need to budget for a $50,000 car every five years, or, I need to put a roof on in 2041. That too needs to be allocated for.
And finally, defining expenses also means setting aside emergency reserves. Okay? And that's not emergency reserves like we talk about and budgeting with, you know, the water heater breaks or you need to do a expensive repair on the car. Now I'm talking about major expenses that may come up down the road. That could be anything from a long term health care situation to major structural house damage, or huge medical or dental bills that could come down the road.
And I'm also not saying that it is reasonable to have to set aside money to cover every one of those possible contingencies. You know, we don't have an infinite amount of money. but having an intentional amount set aside. Is a very smart piece of planning and can also give you a great deal of peace of mind.
So, and this is the main takeaway here. The thing is don't just take the easy road and say, I need to plan for $9,000 a month in retirement. When you do that, you are cutting yourself woefully short. Both in what you might be able to afford to spend money on, and the sense of clarity that you can get by defining these expense goals more precisely.
This future planning and continuing to monitor and adjust your spending is an extremely important part of the picture. is not just for tracking sake. It's crucial because it gives you the permission slip to say, yeah, I can afford to buy that boat. Yeah, I can spend an extra thousand dollars a month for the next five years, or I can help my daughter put down a big down payment on her house. Whatever. Whatever it is that's important to you. now.
Or maybe it tells you, no, I can't afford to do one of those things because I'm already very stretched with these other items that I've said is a priority.
Now, notice I haven't even delved into the ways that you can set up your portfolio to help cover these goals that you've set out. Now, it goes without saying that how you allocate and deploy these resources toward your goal is critical to maximizing your spending. Now. And I'm not going to spend time on that right now. Because, again, it is a very individualized process.
You have a myriad of interdependent decisions that impact how you should be structuring your resources. Things like when do you claim Social Security? Do you take the annuity payout or lump sum from your pension? Do Roth conversions make sense? When and how much? How much cash do you keep on hand for market downturns? How should you spread your assets across different account types like IRAs, Roth IRAs, and brokerage accounts? And then what do you sell each year to generate the cash that you need for your expenses?
Now, compared to saving for retirement, where the biggest question mark is how much do I put away? Investing while in retirement is a much more complex process. You're dealing, of course, with sequence of returns risk, which is something that I've highlighted in videos in the past. You're constantly making decisions on what asset to sell, what accounts to withdraw from, and in what amounts. And how to maintain a certain overall market risk over a period of time.
And of course, the stakes are higher because most retirees either can't or don't want to rejoin the workforce because they've made a big mistake. but if you have a good handle on your current and your future expected cash flow, you have a major leg up. Because you can then proactively choose which expenses that you need to dial back and in which amounts in order to get the overall plan back on track.
One last piece as it relates to the maximizing of your retirement spending. And again, outside the scope of this video is, of course, taxes. Then taxes are often one of, if not the largest expenses that you'll face in retirement. It's important to know that effective tax planning needs to be done with both a long term and a short term lens. But in all cases, it has to be coordinated to your retirement expense goals.
Now, I love making videos about Roth conversions or asset allocation strategies or minimizing capital gains. Avoiding taxes on Social Security and so much more. But again, these are just tips inside of a vacuum. The real value comes from integrating the right strategies at the right times and the right amounts with your individualized income and expense needs.
As an aside, good tax planning is also one of the most challenging parts for a DIY retiree. There are so many moving parts, and each decision affects another area of your plan, and often in ways that you don't expect. And as you might have noticed, the rules are always changing.
Now, I've been doing this for over 20 years, and tax planning and retirement is my biggest focus. And I'm constantly learning new things.
So you know maximizing retirement spending doesn't start with a withdrawal rule. And it doesn't start with an investment strategy. It starts with clearly defining your expenses and treating them as future liabilities that must be funded.
Now, once you see and understand those liabilities, then you can start to align your portfolio, your your cash flow, your tax strategy, your income sources, all towards supporting those goals. that's what creates efficiency. That's what allows you to spend confidently. And usually more so than you could without doing that step.
And by the way, if you haven't started the process at all, I do have a very simple budget template that you can download right off retirement theory.com. That won't get you all the way through the process, but it at least can turn this big, nebulous idea of retirement spending into some concrete blocks of expenses.
As I said earlier, coordinating your cash flow with your retirement income sources and retirement portfolio and tax strategy is complex. Consider working with a financial planner who has expertise and experience in retirement income planning. One who understands how these various pieces interact and how to best structure them for your actual life and your retirement income. Goals.
So do you have questions for me? Come visit me at Retirement theory.com or send me an email at Mike at Retirement theory.com.
Once again, thanks for joining me. We'll see you next time.