People who are transitioning into retirement or are already retired face many unique threats, any one of which could be enough to completely destroy their retirement if no preventative measures are taken. Below are 9 of the most common threats facing almost every retiree, and suggestions on how to avoid them.
Investors entering a multi-decade retirement face a serious problem: inflation is going to cause the cost to maintain their lifestyle to double or triple. A financial “death by 1000 papercuts”, it doesn’t show up suddenly but creeps up over the years, so slowly most people don’t even realize it is happening until they start feeling sticker shock on some of the items they never imagined would be so expensive.
Inflation is especially risky to retirees as a group, because many are relying on fixed income streams in one form or another (whether it be a fixed pension, annuity, or simply just a portfolio of fixed income investments) that will not have a chance of keeping up with their expenses in a rising cost world.
The Solution: The only solution to preserving your purchasing power in a rising cost world is to invest at least some of your money in rising income investments. For most people, that means investing at least a portion of their investments in a diversified stock portfolio. How much you need depends on your goals and how much you can stomach your portfolio balance bouncing around.
It is impossible to make blanket statements because everyone’s financial situation is different – for example, someone with way more money than they would ever spend could invest in 100% bonds, take a very conservative withdrawal rate and be fine. But in my experience, the vast majority of retirees will need at least a portion of their investments to stocks – or what Paul Sr. prefers to call them “the great companies of the world.”
A Bear Market Early In Retirement
Investors who are entering retirement generally have the highest investment account balances they will ever have in their life. But this makes them extra vulnerable to a temporary decline in their investment portfolio, and being forced to sell large amounts of stock at depressed prices early on in retirement can completely derail an otherwise perfect retirement plan.
The Solution: As investors approach retirement, they should consider a “bond tent” – ratcheting up your portfolio’s allocation to bonds in the few years leading up to retirement, bringing it to a peak as you enter retirement, and then ratcheting it back down over the years.
This strategy can help retirees insulate themselves from a large temporary decline early in retirement, but provides a plan of getting back to a stock allocation that will allow them to maintain their lifestyle in a rising cost world.
Poor Long-Term Investment Returns
Though the variability/uncertainty of investment returns decreases with time, there is still a chance that instead of getting a “normal” or “average” return, a retiree could simply get a “bad draw” with low returns over 20 or 30 years. Stock returns of 8%, instead of 10% compounded over decades, can have a huge impact.
The Solution: Since it is impossible to know what returns will be in advance, the best plan of action is to act in a way that your goals will be funded even if you get bad investment returns. This means starting off retirement with a somewhat conservative portfolio withdrawal rate that assumes you could get a “bad draw.”
However, this needs to be done within reason, and balanced versus the fact that life is happening now, and you only get one shot at retirement. You don’t want to spend so conservatively that you end up the richest person in the graveyard.
A spending plan that starts off anticipating these bad draws will more likely than not be increased over time (even with average returns) if it becomes clear you are not getting that bad draw.
Your Own Behavior
Your own behavior can be a detriment to you retirement in many ways.
The primary determinant of your experience as an investor is your own behavior. Success or failure is driven more by whether or not you make mistakes like panic selling when the market is down, investing in the hot stock or over-hyped fad of the day, or investing on margin when the market is sky high.
This issue is compounded for retirees, as we all inevitably will experience some cognitive decline as we age. This means in addition to all the behavioral investing mistakes, other mistakes like completely forgetting about or losing investment accounts, forgetting to pay insurance premiums, etc. can start to creep up and cause problems as well.
The Solution: If you do not have the temperament to manage your investments yourself without making investment mistakes, financial advisors can be worth multiples of the fees they charge. The ability to talk to a cool head when you are about to make an emotional mistake can be priceless when everyone around you is worried and financial media is telling you the sky is falling.
Later in retirement, it is important to designate a person to make sure nothing slips through the cracks as you age. Whether it be a financial professional or responsible family member, it is important to keep your “person” in the loop on any investment accounts, bills, life insurance policies, annuities, and anything else that is important to your financial situation.
One of the biggest challenges in retirement planning is strategically spending from your investment portfolio over the years of retirement, and extreme longevity can require enough extra years of spending to significantly wear on, or even completely deplete an investment portfolio.
The Solution: Many people plan to leave behind a certain amount to their heirs once they pass away – this money can also serve as a buffer and provide years of extra spending in the case of extreme longevity.
Another great longevity hedge is delaying Social Security to receive the 8% increase in benefits for each year you delay, resulting in a much larger benefit that rises over time with inflation and doesn’t run out.
Or, just build your plan with a high life expectancy – conservative, but eliminates the risk of outliving your money.
Dependent Family Members
Dependent family members, whether it be a child, parent, sibling, grandchild – you name it, can be a huge risk to retirement. This issue is a complicated and emotional one, as people want to help their loved ones, and often do so to such an extent they harm themselves, and are no longer able to help anyone!
The Solution: There is no perfect solution for this situation, but I think the most important thing is to have a good idea of how much assistance you can provide without making yourself financially insecure. Whether it be a lump sum to help put out a financial fire or ongoing support, make sure to consult your financial plan or retirement spending plan before providing any assistance to make sure you can afford it.
As we age, any number of medical issues can show up, and as we all know, health care is already expensive and increasing at a rate faster than inflation. Injuries or chronic illnesses that show up out of nowhere can be a huge problem for retirees and have a huge impact on their physical and financial well-being.
Solution: Other than living a healthy lifestyle to prevent medical issues, I think the best solution is to make sure you are adequately covered by insurance. In addition, it may be important to keep yearly deductibles set aside in cash, and to incorporate some amount of yearly spending on healthcare into a retirement spending plan.
Problem: According to longtermcare.gov 69% of people need some form of long-term care and require it for an average of three years. Though these statistics may be overly-alarming, as that includes home care that most people pay for, the risk of needing some form of expensive long-term care is enough to cause concern.
Read More: The Truth About Long-Term Care
Long-Term care expenses at the end of life can be costly, and completely destroy a retirement if not planned for correctly.
Solution: Make a reasonable plan to either buy enough insurance to pay for a long-term care expense, or have enough assets set aside to fund those expenses yourselves.
Death of a Spouse
Beyond the obvious emotional trauma of a spouse passing away, there are often financial implications to a spouse’s passing as well.
The first is when the spouse that manages the finances happens to be the one that passes away, leaving the surviving spouse to figure out their financial situation, during a time they are already emotionally distressed. This can often lead to serious financial mistakes and leaves the potential for the surviving spouse to be taken advantage.
A spouse’s passing also can decrease the income of a household enough to cause problems if the couple is depending on pensions or Social Security for a large portion of their spending. It is very common that the survivor benefit of a pension is only a percentage of the normal benefit, and cuts the surviving spouse’s income significantly. The money coming in from Social Security will decrease as well – though the surviving spouse will receive the higher of the two individual benefit amounts, it will be lower than the combined amount the couple was used to.
The solution: Though it is not always the most pleasant thing to think about, it is vitally important to plan for a spouse’s passing, especially if it is the spouse who manages the household finances. It is vitally important to designate a person to keep in the loop on all your finances and help the surviving spouse manage the transition into an independent life.
Your retirement plan should realistically look at any reductions in income should a spouse pass away, and see if the surviving spouse can maintain the same lifestyle. If the reductions in spending would be too much to handle, you may need to address that risk by spending less now to make sure you have enough assets to make up that gap in spending, or perhaps use some form of life insurance to serve the same purpose.
Final Thoughts: Address Risks Before They Become Problems
The risks mentioned above are just some of the many risks facing people entering a multi-decade retirement. Odds are you will face not just one, but several.
The most important thing for retirees or future retirees who recognize these risks, is to take action to make sure they don’t materialize into serious problems. If you can’t do that yourself, it is often helpful to find an advisor or other financial professional to spot these types of risks, and to create a plan to avoid them.
Whichever route you choose, make sure you address these risks now to avoid problems down the road. Your happily-retired and financially-secure future self will thank you for it.
Paul R. Ruedi, CFP® is a financial advisor at Ruedi Wealth Management in Plano, Texas.
Paul has been quoted in news publications including USA Today, Forbes, The New York Times, Dallas Morning News, Inc.com, Business Insider, US News and World Report, GoBankingRates, The Street, NerdWallet, and The Penny Hoarder. He also writes articles that have been featured in CNBC, Investopedia, Yahoo Finance, Nasdaq, and MSN Money. He was named one of Investopedia's Top 100 Most Influential Financial Advisors in 2018.