The primary purpose of this website is to help the retirees and near retirees who happen to stumble across this blog site make better financial decisions. We attempt to do this by providing relatively simple tools (spreadsheets) and processes which utilize basic actuarial and financial economics principles. These tools and processes, which are available for free, can be used by DIYers or by financial advisors to quantify the effects of various options available to retired or near-retired households with respect to their spending and investing. The authors of this blog are retired actuaries. Neither of us receives any direct or indirect compensation from visits to this website or from any activity associated with this blog.
According to recent economic research from the Federal Reserve Bank of St. Louis, the pandemic and other factors resulted in a significant increase in the number of job separations in the U.S. For older workers, these job separations may turn into permanent early retirements. This post will discuss how older workers who have recently separated from their prior jobs can use the Actuarial Financial Planner (AFP) spreadsheets (for Single Retirees or for Retired Couples) to help them make decisions such as:
- Whether they can afford to fully retire at this time
- Whether they should go back to work on a part-time or full-time basis
- Whether they should delay commencement of their Social Security benefits
- Whether they should elect to receive their benefits from prior employer sponsored plans in the form of a lump sum or an annuity (or purchase an annuity with some or all of the rolled over lump sum proceeds or other accumulated savings)
- How to allocate their retirement resources between non-risky and risky investments
- Whether they can tap into their home equity by downsizing or through a reverse mortgage
After briefly discussing how the Actuarial Financial Planner can help retirees and near retirees make better financial decisions in general, this post will briefly elaborate on each of the above decisions.
Actuarial Financial Planner
There are two primary outputs from the AFP:
- Amounts of current and future recurring and non-recurring spending (including taxes) that can be reasonably supported by total household assets, and
- Amounts of non-risky assets reasonably needed to support current and future essential expense (vs. discretionary) spending
Output number 1 above is useful in determining how much a retired household can afford to spend in retirement and it can also be used by near-retirees to determine how much assets may be required to support a desired lifestyle in retirement. Output number 2 is useful in determining how much the household might want to invest in non-risky assets vs. risky assets to accomplish their retirement spending goals.
Time to fully retire?
Of course, the decision of when to fully retire should not be based solely on financial considerations. However, it is certainly nice to know before you decide to retire if you currently (or will) have reasonably sufficient resources to fund your desired recurring and non-recurring spending over your remaining lifetime. As noted above, AFP output item #1 provides useful information for this purpose. Many households will want to build in extra reserves and investments in risky assets into their plan in order to increase their probability of success.
Engage in part-time or full-time work?
If a household has insufficient assets to fund their desired spending liabilities (or the household wants a higher level of confidence in the plan’s ability to meet spending goals), they may wish to work in part-time employment or full-time employment for a limited period of time. The AFP provides an input item for entering part-time employment to see how such income can increase household assets and affect output number 1 discussed above.
Timing of Social Security commencement
Deferring commencement of Social Security benefits can increase both spending amounts that the household can support and investment in non-risky assets. To see the estimated effect on both output items above, enter the expected deferred Social Security benefit and the number of years of deferral in the AFP. When determining the expected deferred Social Security benefit, don’t forget to include assumed cost of living increases in addition to actuarial increases associated with deferral of commencement. AFP automatically determines how much income from other sources will be required to “bridge” the period of deferral. Users of the AFP who plan to defer Social Security benefits until age 70, for example, should be aware of the amount of accumulated savings that will be spent during the bridge period, as deferral of Social Security benefits during periods of unemployment generally involves diminution of accumulated savings and is not dissimilar to using accumulated savings to buy a life annuity.
Distributions from employer sponsored plans
Sometimes benefits from prior employer sponsored plans involve a choice between receiving payments in a lump sum or in the form of a life annuity. Even if the only choice is payment as a lump sum from a defined contribution plan, the lump sum can be rolled over to an IRA and all or part of the payment proceeds can subsequently be used to purchase a life annuity from an insurance company. Therefore, households should decide the ultimate form of payment from prior employer qualified plans when making their distribution election. The AFP permits households to compare the present value of their essential expenses with the present value of their non-risky assets for this purpose.
Allocation of total assets between non-risky and risky investments
Similar to the choice between receiving distributions from employer sponsored plans in the form of a lump sum or lifetime income, the AFP helps households allocate their total assets between non-risky and risky investments to use Liability Driven Investing (LDI) principles to match the market value of their non-risky assets with the “market value” of their future essential expenses.
Tapping into home equity for retirement expenses
The value of a household home (or homes) is an asset, which like other household assets may be sold and the proceeds used to fund expenses in retirement. House equity can also be accessed through a Home Equity Conversion Mortgage. Care should be taken, however, when determining the amount and timing of estimated sale proceeds that are intended to be used fund household retirement expenses. Cash flow problems requiring earlier than desired sale of the asset can occur if the present value of a future sale is used to pay for current expenses. When using the AFP, we encourage users who include home equity in their retirement assets to make sure they include reasonable estimates for non-recurring spending liabilities such as long-term care and are aware of (and monitor) the potential cash flow issues.
Conclusion
Because of the pandemic and other factors, we have seen a significant increase in the number of individuals who have left employment. Some of these older workers are now considering whether they can or should fully retire. We believe the Actuarial Financial Planner provided in this website can provide useful quantitative information to these individuals (or their financial advisors) that can help them make the important decisions described in this post.
