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Bucketing Your Retirement Money

Today I would like to discuss the retirement spending strategy we use at 80/20 Financial Services. If you work with us this will typically be our approach to creating a spending/income plan for you throughout your retirement years.

Many advisers use a bucketing system, but just as every retirement is unique, so is each advisers bucketing strategy. So here is a break down of how we do it, generally speaking. Each individual will have different income needs and possibly different sources. So each bucketing plan will be tailored to that specific individual or family.

Let's say you are offered a 1 million dollar lump sum from your employer and you need $50,000 per year to live. This is initially how we would look at distributing your funds.

Bucket 1

We want this bucket to carry you through years 1-5 of retirement with little no no risk of that cash being exposed to the stock market. Years 1-5 will be put in a Money Market Mutual Fund or similar investment. The reason for this is we want you to go to sleep every night know that you know exactly where your money is coming from for the next 5 years and that it's as safe as it can possibly be. We will put approx $250,000 in this bucket. This covers the first 5 years of retirement.

Bucket 2

This is what we refer to as our Buffer Bucket. This bucket is used to keep a buffer between our safe money (Bucket 1) and our investment money. We want this to be used ideally for years 6-10 of retirement. We will typically put this money in a Multi Year Guaranteed Annuity aka a MYGA. This is basically a 5 year deferred annuity that pays a specific interest rate. Think of it as a fancy Bank CD.

We set these first two buckets up in a way where it is very unlikely that they lose money. We want to protect these first two buckets because they are our first 10 years of retirement. These two buckets are our defense against any market zig zags, ups and downs, whatever you want to call them. While we are using Bucket 1 and 2 money to fund immediate retirement expenses, we will need to add some investment type accounts to keep up with the increased cost of living that happens on a yearly basis. Ex. Remember what a stamp cost 20 years ago? Answer is around $0.32. A stamp today is around $0.55. We have to guard against losing our spending power in retirement. That's where Buckets 3 and 4 come in.

Bucket 3

This Bucket is designed to not be needed as retirement income until year 11 in retirement. That means this Bucket has 11 years to grow. We will typically invest this money in a 10 year Fixed Income Annuity. A Fixed Index Annuity is an Annuity that tracks an a specific index like the S&P 500. The annuity will typically give you what is referred to as a participation rate or PR. This means that what ever the index gets as a return you will get a percentage of that return based off your participation rate. Ex. Let's say you had a Fixed Index Annuity with a 50% participation rate and it tracked the S&P 500. If the S&P had a 10% return you would get 5%. If the S&P had a return of 12% then you would get 6%. However, if the S&P had a negative return in a single year your return would be 0%. Fixed Index Annuities let you participate in market upside, but they don't let you participate in market losses. Meaning the worst you can do in any given year would be zero. We would put around $350,000 in this bucket.


Notice so far, that we have protected your money as best we can while allowing some growth at the same time. We have retirement years 1-15 taken care of. Let's move to Bucket 4.

Bucket 4

We have a couple options with this bucket. My first recommendation would be to invest this money in growth and value type mutual funds. We take some risk here because we don't need this money until year 16 of retirement. We want to take healthy risks though. No big swings or wacky investments. Ideally, we are looking for an 8-10% return on this money. This bucket is going to rise and fall with the market. That's ok. We don't need this money until year 16 or later in retirement. Let's assume we get 8% on this money. I'm going to invest the balance of our 1 million in this account. After filling up the first 3 Buckets we have $150,000 left to invest. By the time we get to this account assuming an 8% return, it could be worth around $500,000 or a bit more. See my blog on the Rule of 72.

Let's say investing any part of your retirement nest egg in the stock market scares the bejeezus out of you! That's ok and we can go a different route. Another option could be another Fixed Index Annuity that tracks a different market index. An example would be a Fixed Index Annuity that tracks the top 40 dividend paying companies in the S&P 500 or something similar. Much like Bucket 3 you can only participate in market gains in a Fixed Indexed Annuity so  you can't lose money with these. The trade off is you can't get all the gains the market would give you either.

Conclusion

We use Buckets 3 and 4 to replenish our Bucket 1. We always want a 3-5 year buffer of cash between us and any market volatility. Remember the Coronavirus? That way if the market goes down 30% like it did in 2020, we have nothing to worry about because we can ride that out any market swings that come our way because we have planned for them to happen.

Our goal is to diversify your money across time as safely as we can, while allowing you flexibility with growth and ultimately, some peace of mind.

There you have it. This our retirement spending plan in very general terms. Again each Financial Plan will be tailored to the individual because each individual will have different needs. This is what we do on the Investment Management part of your retirement plan. However, this is only one part of the entire financial plan.  At 80/20 Financial Services:

We are retirement planning specialists and we believe that retirement planning encompasses the following: Investment Planning, Income Tax Planning, Estate Planning, Special Goal Planning, Cash Flow Planning, and Insurance Planning.

Thanks for reading and please contact us with any questions or to schedule a no obligation meeting to see if we can work together.

Brian Coleman/Investment Adviser Representative