As noted in our post of April 11, 2021, the financial planning process recommended in this website (Recommended Financial Planning Process) is a relatively simple and straight-forward process. It is a “two-bucket” planning approach that involves establishing
- a Floor Portfolio to fund your current and future Essential Expenses, where assets in this portfolio are invested in non-risky investments, and
- An Upside Portfolio to fund your current and future Discretionary Expenses, where assets in this portfolio may be invested in riskier investments.
The basic actuarial principles used in this process are time-tested principles employed successfully by actuaries for many years. These principles involve periodically comparing the present value of one’s assets with the present value of one’s liabilities. While these calculations are not necessarily simple, they are easily performed using our Actuarial Budget Calculator (ABC) workbooks.
There are several approaches that can be used today by households or financial advisors to develop retirement spending and investment strategies. The two best-known approaches are referred to as Monte Carlo modeling (frequently used by financial advisors) and Strategic Withdrawal Plans (SWPs). Advocates of Monte Carlo modeling tools sell their tools by arguing that they are more sophisticated and more complicated than simpler tools and produce probabilities of success/ruin. Advocates of SWP approaches argue that their proposed approaches are simpler than Monte Carlo modeling approaches (and can be performed by DIYers). Unfortunately, both of these approaches require modifications or adjustments under certain circumstances to work reasonably. These modifications and adjustments make SWP approaches potentially less simple than advertised.
Advocates of Occam’s Razor principles of problem-solving argue that the best problem-solving approach is usually the simplest approach. In this post, we argue that had William of Ockham studied the retirement problem, he may have selected our Recommended Financial Planning Process as the simplest and most effective. Below, we outline what you get and what you don’t get when you employ the Recommended Financial Planning Process.
What you get with the Recommended Financial Planning Process
Using this process gives you data points to help you answer the questions like those listed below when you are in or near retirement. This is not an exhaustive list. The dates shown in this section refer to dates of posts on this website discussing the specific question. These posts may be easily located using our chronological Index.
- Can I (and/or my spouse) afford to retire? (April, 28, 2021 and December 11, 2017)
- Have I (or we) accumulated sufficient assets to afford to retire, and if not, how much more do we need to accumulate? (April 28, 2001)
- When should I (and/or my spouse) commence our Social Security benefits? (April 28, 2021 and December 6, 2020)
- How should we allocate our assets between non-risky and risky investments (an investment strategy)? (February 2, 2021 and October 18, 2020)
- How much can we afford to spend on recurring and non-recurring expenses this year? Can we afford to purchase specific big-ticket items or incur other unexpected expenses? (a spending strategy) (April 28, 2021 and October 6, 2020)
- Should I take a part-time job to supplement my other sources of income and how should such income affect my spending? (June 4, 2021 and August 29, 2018))
- Should I take a lump sum from my pension plan? (April 28, 2021 and April 12, 2019))
- Should I purchase a life annuity starting now or sometime in the future? (February 2, 2021, March 11 and April 5, 2020)
- How much can my spouse afford to spend if I were to die this year? (March 22, 2020 and September 16, 2018))
- Which of my expenses might I have to reduce if the stock market tanks? (April 18, 2020)
- What is our plan for dealing with possible future Social Security reductions? (December 6, 2020)
- What might be the financial consequences of a marital breakdown? (April 28, 2021)
- What is our plan for covering long-term care expenses? (May 8, 2017)
- What is our plan for leaving a bequest and how does it affect our current spending budget? (January 17, 2020)
The Recommended Financial Planning Process is a dynamic process and automatically adjusts annual spending budgets resulting from favorable or unfavorable experience. In addition, budgets can be smoothed from year to year to avoid significant fluctuations.
What you don’t get (and don’t need, in our opinion) with this process
Under the Recommended Financial Planning Process, you don’t develop:
- A safe withdrawal rate that may or may not be safe
- “Retirement income” estimate or a retirement “paycheck” that may or may not be consistent with your spending goals
and you don’t have to make special “adjustments” for
- Non-linear sources of income (as discussed in our post of June 4, 2021)
- Non-linear expenses (like vacations or home improvements)
- Future experience different from assumed
- Different investment mixes
- Different ages or lifetime planning periods
- Optimistic assumptions built into the model used (as discussed in our post of June 23, 2021)
Spending and investment strategies developed using Systematic Withdrawal Plans (SWPs) or Monte Carlo modeling can be static or dynamic strategies and can involve significant adjustments to work properly. See our post of March 7, 2021 regarding determining Probability of Success-Driven Guardrails for an example of proposed adjustments to Monte Carlo models to make them more of a robust planning tool.
Summary
We believe the Recommended Financial Planning Process, without adjustment, is more robust and can be simpler than other approaches currently used today in terms of producing reasonable data points that can help households answer typical retirement questions like those outlined above. And, as a bonus, it is available to you for free. We understand that not everyone wants to become a financial expert on retirement. On the other hand, as discussed in our post of July 21, 2020 and our post of April 5, 2021, we believe it is important for you to be knowledgeable about your personal finances and assume responsibility for your own retirement. We encourage you to spend the 30 minutes that may be required at the beginning of each year to use our workbooks and recommended processes in order to make better retirement financial decisions, or to simply double check advice you may be receiving from other sources.
