In The Vanguard
®
Summer 2016
Living in Retirement Issue
Jane Bryant Quinn’s advice: Plan for a long
retirement—and perhaps even living past 100
In her latest book, the noted personal finance author and commentator
asks, “Can you afford to retire soon or should you wait?” The answer,
she says, can be found by focusing on simple but effective financial
planning strategies.
Jane Bryant Quinn
Retirement in the 21st century is changing
fast. We’re generally living longer and
remaining active longer, and we have more
ways to spend our retirement years. The
trade-off is that we also need to stay more
vigilant than ever against the risk of outliving
our money.
“You’re covering your expenses now, but
what will your budget look like when your
work life ends, as eventually it will?” Jane
Bryant Quinn asks in How to Make Your
Money Last: The Indispensable Retirement
Guide. She spoke with In The Vanguard for
this special issue.
You stress how important it is that retirees
invest for growth. Why is it risky to be too
conservative?
It’s risky because of increasing longevity—
which, of course, means you need to invest
for a longer period of time. At 60 or 65, you’re
likely going to live another 20 or 30 years, so
you are still a long-term investor when you
reach retirement age.
You must find ways of paying to support
your lifestyle for decades. Fortunately,
I believe, you can expect that over long
periods, the American economy will grow,
the global economy will grow, and you can
capture that growth by investing in stocks.
For many people, the best way to get
exposure to stocks is through broad-based
equity mutual funds—specifically, index
funds, which I’ve always championed.
Keep planning so
you can live your
best retirement
It’s finally time to tap into
your retirement accounts,
after years of saving and
planning. But the switch to
spending can be challenging.
Your days of saving may be
over, but there are steps
you can take to ease the way.
In this issue, we address
common retiree questions,
including how to extend
the life of your savings.
page 2
Among our clients’ questions
to advisors about retirement
are many with common themes.
page 3
Stocks have risks, but you have to balance
that against the very significant risk of
outliving your money.
Focusing on your portfolio’s
total return is, we believe,
a wise approach to investing
for and during retirement.
In your book, you advocate “bucket investing.”
What is that, and why is it effective?
page 4
Bucket investing helps people think about
their money in very precise ways, because
it attaches a “bucket” to a particular goal.
For example, you may ask, “What are my
needs for cash for the future?” That’s your
cash bucket. If you use that cash, you need
to restore it to keep the bucket full.
See Q&A WITH JANE BRYANT QUINN on page 7
Connect with Vanguard® > vanguard.com
In this issue
Before you tap your nest egg
in retirement, it’s best to
have a withdrawal plan
that minimizes your taxes.
page 5
Flexibility is key when it
comes to your strategy for
spending in retirement.
Managing your wealth
What retirees and pre-retirees ask advisors the most
Many of our clients who are retired or approaching retirement get professional investment
management from Vanguard Personal Advisor
Services®. Our advisors listen to and learn from
these clients before any decisions are made or
investment plans created.
Chuck Riley
A number of clients’ concerns require customized answers; however, other questions are
asked frequently and share common themes.
Chuck Riley, a senior financial advisor in Personal
Advisor Services, recently discussed what’s
most on the minds of our retirees and
pre-retirees.
Aligning for age
Most clients inquire about asset allocation—the
way an investment portfolio is best divided
among stocks, bonds, and cash reserves.
Mr. Riley and his colleagues are most often
asked: Is my allocation right for my age?
“I know there are many different rules of thumb
on how to allocate the percentage of stocks and
bonds in your portfolio, such as subtracting your
age from 100,” Mr. Riley said. “Those are OK to
use as a starting point, but really your allocation
should be aligned with your goals, your time
horizon, and your risk tolerance, rather than
just your age.
“It all starts with: What are you trying to do?
Live in retirement, or create a legacy for your
family or for charity? Or a little bit of both?
Some of the first questions I ask are: What
are your plans for how you would like to spend
your money, and what’s your goal? Then I go
from there.”
Calculating your cash
Another common question with an asset
allocation component is: How much cash should
I have on hand in retirement? A practical answer
is based on time rather than dollars.
“When you’re in retirement, we recommend
that you have a year’s worth of expenses in cash
and maybe a little extra, just in case you need
slightly more than you expected,” Mr. Riley said.
“You figure out what your expenses are, how
much you’re going to take from the portfolio,
and then you have that amount in cash.”
Mr. Riley said that rebalancing among the asset
classes to replenish your cash account is an
important part of the equation.
“Cash is best used for spending,” he said.
“We want cash on hand so that you have
always liquid assets available for a spending
need. We then want the rest of the money in
your portfolio—both the stock funds and the
bond funds—working as hard as possible to
replenish that cash.”
Don’t ignore global markets
Retirees and pre-retirees also have questions
about allocating to international markets. One
of the most relevant is: Why should I keep or
increase my international exposure? It’s a timely
question, as Vanguard recently raised, from 30%
to 40%, its recommended level of international
exposure in a portfolio’s stock allocation.
“The world’s markets are 50% United States
and 50% everybody else,” Mr. Riley said.
“We’re trying to get as close to the return of
those markets as possible, while taking into
account the costs of investing internationally
and the associated currency risks. Our research
has shown that 40% of your stock holdings is
a good target.
“Over the next 30 or 40 years, international
markets will perform differently than the
United States. Sometimes they will outperform;
sometimes they will underperform. We’re not
trying to guess when it will happen. We just
want to make sure you have exposure there
to diversify the portfolio.” ■
Advisory services are provided by Vanguard Advisers, Inc. (VAI), a registered investment advisor.
All investing is subject to risk, including the possible loss of the money you invest. Past performance is no guarantee
of future results. Diversification does not ensure a profit or protect against a loss.
2
In The Vanguard > Summer 2016
Managing your wealth
When investing for retirement, don’t just look at income
As guaranteed sources such as pensions
further decline, investment portfolios have
become an important source of retirement
income. But with interest rates near
historical lows, how can retirees best
meet their income needs? The articles
on pages 3–6 are based on Vanguard’s
three-pronged strategy for extending the
life of your portfolio.
During their working years, many investors seek
to accumulate a target level of savings that they
believe will support them in retirement and
possibly help provide for their heirs. But when
it’s time to rely on this nest egg, a reluctance
to tap hard-earned principal can lead to counterproductive behavior.
A common approach
appropriate goals; develop a suitable asset
allocation using broadly diversified funds;
minimize cost; and maintain perspective and
long-term discipline. These principles apply for
both investors accumulating assets and those
drawing them down.
That’s why we believe that a better approach
to investing for and during retirement is to focus
on a portfolio’s total return—both income and
capital appreciation.
Pluses of total-return investing
Focusing strictly on income—for instance,
overweighting higher-yielding bonds (such as
corporate or longer-dated bonds) and dividendpaying stocks—can distort a portfolio’s asset
allocation and may not take into account the
investor’s time horizon, risk tolerance, and
financial goals.
The total return on an investment portfolio
generally comes from two sources: income
and changes in price. The income return is
paid out as dividends or interest, and the capital
return reflects price increases or decreases.
This can alter the portfolio’s fundamental
risk characteristics, often in unintended ways.
Instead, a total-return approach can better
match the asset allocation to the investor’s
risk/return profile and help keep the portfolio
diversified, which can reduce risk.
Many pre-retirees and retirees follow an incomefocused approach, maintaining a portfolio with a
yield that they anticipate will meet their spending
goals. But even the best-laid plans can fall short.
For example, with interest rates in recent years
near historical lows, investors relying on income
from bond portfolios have been pinched.
A total-return approach also allows more control
over the size and timing of portfolio withdrawals.
And because an investor can draw from capital
appreciation rather than just income, spending
can be more flexible—and can be adjusted in
response to changes in the market value of
the total portfolio.
What happens when an investor needs—or
wants—to spend more than the portfolio is
generating? Michael DiJoseph, an investment
analyst in Vanguard’s Investment Strategy
Group, said, “Many investors tend to tilt their
portfolio’s asset allocation even further toward
income-producing assets, perhaps not realizing
that this can be self-defeating.”
“Tax efficiency can be another benefit of this
approach, when investors consider whether to
own certain assets in taxable or tax-advantaged
accounts,” Mr. DiJoseph said. (See the article
on page 4 for more on tax-efficient retirementsavings withdrawals.)
A better approach
You may already be familiar with Vanguard’s
four core investment principles: create clear,
Connect with Vanguard > vanguard.com
Michael DiJoseph
You can read more in a new
paper, From Assets to Income:
A Goals-Based Approach
to Retirement Spending,
available upon publication
at vanguard.com/research.
The combination of tax efficiency plus more
control over withdrawal size and timing can
help extend a portfolio’s longevity. With life
expectancies increasing, it’s wise not to
underestimate the benefit of a longer life
for your portfolio. ■
3
Managing your wealth
How to tap your retirement money while keeping taxes down
You’ve diligently saved for retirement and
figured out how much you can spend each
month. Now it’s time to tap your nest egg.
But before you do, you need a plan for taking
money out in a way that minimizes your taxes.
Colleen Jaconetti
“One of the key principles for extending the
life of your retirement savings is to implement
a tax-efficient withdrawal plan,” said Colleen
Jaconetti, a retirement expert with Vanguard’s
Investment Strategy Group.
So how can you be tax-efficient? The key
is taking money from your retirement and
nonretirement accounts in the most
strategic order.
You may have different types of retirement
accounts—for example, a 401(k) plan, a
brokerage account with stocks and bonds,
and a Roth IRA. It helps to categorize these
accounts in one of two ways: taxable, such as
that brokerage account, and tax-advantaged—
which can mean tax-deferred, such as a
traditional IRA or 401(k), or tax-free, such as
a Roth.
Vanguard research shows that to maximize
your lifetime spending, it helps to withdraw
from savings in a particular order: first, take
required minimum distributions (RMDs) from
tax-deferred accounts, if applicable; then tap
your taxable accounts; and finally, withdraw
from tax-advantaged accounts.
Reviewing IRS tax rules for each type of
account can help you determine the timing
and amount of your withdrawals.
Next, deplete cash distributions from taxable
accounts. Investments outside your tax-favored
retirement accounts generate taxable cash
flows—for example, interest, dividends, or
capital gains. Whether you reinvest or spend
these distributions, you’ll owe taxes on them.
“It’s better to use these cash flows to meet
your spending needs rather than reinvest them
and possibly have to sell them in the near term,
which could result in short-term capital gains,”
said Ms. Jaconetti.
She suggests that retirees set up a checking
account in which to deposit these distributions,
along with RMDs and other retirement income
such as a pension or Social Security check.
Then, sell your taxable assets. To avoid driving
up your taxable income, it’s better to sell taxable
assets before withdrawing money beyond the
RMD from tax-deferred accounts. Withdrawing
from your traditional 401(k) or IRA most likely
will incur income tax on the entire withdrawal.
However, if you sell from your taxable accounts,
you’ll be liable only for capital gains on the
appreciation of your investment. Currently,
income tax rates are higher than long-term
capital gains rates. And if you wait to withdraw
from tax-deferred accounts, you can let them
grow and put off the tax bite.
“Try to minimize the impact of taxes by
selling assets at a loss or minimal gains first,”
Ms. Jaconetti added.
The sequence, and why it matters
Finally, draw from your tax-deferred or taxfree accounts. Your current and expected future
tax rate should help determine which account to
tap next.
Start with RMDs. If you’re 70½ or older and
have a tax-deferred account, such as a traditional
IRA or 401(k), you must take a yearly RMD or
face a steep penalty—50% tax on the required
amount.
As a general rule, you should withdraw from
tax-deferred accounts when you think your
tax rate will be lowest. If you expect to be in
a higher tax bracket later, spend from your
tax-deferred accounts now to lock in the lower
Notes: The information provided here is for educational purposes only and is not intended to be construed as legal
or tax advice. We recommend that you consult a tax or financial advisor about your individual situation.
4
In The Vanguard > Summer 2016
tax rate. Delaying withdrawals from tax-free
accounts will help maximize their growth.
But if you expect your rate to drop, withdraw
from tax-free accounts before tax-deferred ones.
Legacy considerations
Some investors want to leave assets to heirs.
If you do, consider both your own tax bracket
and theirs.
In general, it’s better to transfer assets to them
that have no tax liability—for example, a Roth.
However, beneficiaries of traditional IRAs or
other tax-deferred accounts will incur taxes.
It’s ideal to spend more from these before
transferring them.
Remember, your spending needs should be
the priority.
“Most people want to leave a legacy, but if
they end up living ten or 15 years beyond their
life expectancy, they might not be able to,”
Withdrawal order for retirees whose goal
is to maximize lifetime spending
1.
RMDs (if applicable)
2.
Taxable cash flows
(interest, dividends, capital gains distributions)
3.
Taxable assets
If you expect a higher marginal
tax bracket in the future
or
If you expect a lower marginal
tax bracket in the future
4.
Tax-deferred assets
4.
Tax-free assets
5.
Tax-free assets
5.
Tax-deferred assets
Source: Vanguard.
Ms. Jaconetti said. “And they shouldn’t be
afraid to spend the assets that they have
because, of course, they may need to use
them to live on.” ■
Flexibility is key when it comes to spending in retirement
Anyone who has tried to design a retirement
spending plan can tell you it’s not very
straightforward. Part of the challenge is all
the unknowns. These include your life span,
the effect of inflation on your savings, and
the performance of the financial markets.
A number of spending rules have been
developed to simplify retirement-plan
calculations. We outline two below and
suggest an additional one of our own.
“Dollar plus inflation” rule
The 4% spending rule, which has been
popular since the 1990s, is simple to follow:
You withdraw 4% of your portfolio in your
first year of retirement, then the same amount
adjusted for inflation every year after that.
Your optimal withdrawal rate could be higher
or lower than 4%, depending on your situation
and on how conservatively or aggressively
your portfolio is invested. That’s why we use
a broader label to define this strategy:
the “dollar plus inflation” rule.
“Percent of portfolio” rule
The 2007–08 financial crisis underscored the
havoc that financial markets can wreak on even
the best-laid retirement plans. Continuing to
spend the same amount in inflation-adjusted
terms under the dollar plus inflation rule made
many recent retirees uncomfortable, and with
good reason: The drop in the stock market
significantly raised the chance they might
outlive their savings.
See SPENDING RULES on page 6
Connect with Vanguard > vanguard.com
5
Managing your wealth
SPENDING RULES, from page 5 >
The “percent of portfolio” rule aims to resolve
this issue by taking market performance into
account. Each year, you spend a set percentage
of your prior year-end’s nominal portfolio balance.
The dollar amount available for you to spend
will increase if the markets have done well and
decrease if they haven’t. You won’t deplete your
portfolio, but your annual spending could vary
significantly depending on market returns. That
might work for those willing to make big budget
cuts during down markets, but not all retirees
are able to do so.
Our “dynamic spending” approach
For those seeking a relatively stable retirement
income level without ignoring the effect of
market returns, we suggest a hybrid of the
previous two rules. Our “dynamic spending”
rule lets you spend a fixed percent of your
annual portfolio balance as long as the dollar
amount, adjusted for inflation, doesn’t
fluctuate too significantly from your initial
spending amount.
For example, applying a 5% ceiling would
prevent your spending amount from rising
more than 5% above the previous year’s
spending, if markets do well; applying a 2.5%
floor would prevent spending from falling more
than 2.5%, if markets perform poorly.
What each rule might mean for real dollar spending in Year 2 of retirement
Projected dollar amounts or ranges are based on a rise or fall of 10% in a
$1 million retirement portfolio in Year 1
$45,000
$42,400
$42,000
42,500
$40,000
40,000
$39,000
37,500
35,000
$34,400
32,500
Dollar plus inflation
Dynamic spending
Percent of portfolio
Notes: This hypothetical example is provided for the purposes of illustration only. Actual dollar amounts
would be different when adjusted for inflation.
Source: Vanguard.
6
In The Vanguard > Summer 2016
Our dynamic spending rule helps you put
aside some upside return in good years, which
cushions the spending impact in bad years.
Doing the math
Imagine that you enter retirement with a
$1 million portfolio. You decide that 4% of
that would meet your spending needs, so you
withdraw $40,000 at the beginning of Year 1.
If the markets push your portfolio up or down
by 10% that year, your ending balance after
you spent $40,000 would be either $1.06 million
or $860,000. Under the dollar plus inflation rule,
your spending power would hold steady, regardless of the ending balance. Under the two other
strategies, your spending power would fall
within the ranges shown in the table at left.
The percent of portfolio rule lets you spend the
most in up markets, but also the least in down
markets—in this example, by $5,600—if the
portfolio falls by 10% in Year 1.
The dollar plus inflation rule doesn’t let you
benefit from rising markets, and the steady
income it offers in down markets may come at
the cost of your portfolio’s longevity. You would
withdraw the same inflation-adjusted amount
regardless of how the markets perform.
The dynamic spending rule falls in between.
It prevents you from spending the entire market
gain by limiting your spending increase to 5%,
but it also protects your spending from the market
loss by limiting your spending decrease to 2.5%.
Striking a balance
The ceiling and floor rates we used are not set
in stone, and no strategy should be followed
blindly. The key ingredient for retirees following
any spending plan is flexibility. The more you
can tolerate some short-term fluctuations, the
more likely you are to achieve a suitable balance
of meeting both your current and future
spending needs. ■
Investing your money
Q&A WITH JANE BRYANT QUINN, from page 1 >
A second bucket to think about is one for longterm growth. As I mentioned, you want some
percentage of your investments in stock mutual
funds for long-term growth.
The remaining bucket is for fixed income—your
bonds—to provide stability.
So you’ve got your growth bucket, your fixed
income bucket, and your immediate cash bucket.
I think that’s a very clear way of thinking about
how you should invest.
You devote an entire chapter to “rightsizing”
one’s life. Can you explain what that means
and how to achieve it?
You may be nearing the end of your career
and asking: “How much do I need to retire?
When do I think I can retire?” What you need to
do at that point is project the amount of income
you can reasonably expect from your savings
and investments, Social Security, and pensions.
Then you project what your expenses are
going to be.
If it looks like your expenses are going to exceed
your income, you need to rightsize your life,
which means you need, over time, to develop a
lifestyle that will fit within the retirement income
you can reasonably expect. That’s really critical.
And if you’re married, it’s also absolutely critical
that you do this with your spouse, because
when people start thinking about retirement,
they often discover that they think in very
different ways.
Your book makes a case for waiting to start
taking Social Security benefits. Why should
the vast majority of people wait?
It comes back to where we started the
conversation: longevity. The longer you wait
to take Social Security, the higher the initial
check you’ll receive. Instead of taking Social
Security at 62, if you wait until you’re 70,
your initial check is going to be 76% higher,
plus inflation—and that’s a big difference.
Many people say: “Well, if I wait until 70,
I might be dead by then.” You might be.
But the numbers say you are going to live
to your mid-80s or later. My dear mother
is an example. We are celebrating her
101st birthday this year.
The greatest benefit you have from Social
Security is longevity insurance, and it’s
inflation-adjusted longevity insurance. So
if higher inflation should return, you are
completely protected. I would bet on living
a longer life, in which case waiting to take
Social Security is very advantageous.
If you’re married, and you wait to collect
Social Security, you will leave a higher
survivor’s check to a dependent spouse
when you die. It’s important to think of your
spouse when you’re making this decision.
Obviously, if you don’t have enough money,
and the only way you could maintain a decent
lifestyle for yourself is by taking Social Security
at 62 or 63, then of course you’re going to
do that.
Do you have any final piece of advice?
I would say, “Simplify your financial life.”
Couples wind up with all kinds of bits and
pieces of their financial life in various places.
Consider simplifying by gathering your savings
and investments in the same place so you
can keep track of them. Having several bank
accounts scattered around that your heirs might
not know about is just absolutely not worth it.
You don’t want to worry about your money all
the time in retirement. That’s why you rightsize,
that’s why you simplify your finances, that’s why
you set it up so it runs on a simple bucket basis:
because you want to get on with all the more
important things in life. ■
Note: Opinions expressed by Ms. Quinn are not necessarily those of Vanguard.
Connect with Vanguard > vanguard.com
7
Managing your wealth
How retirement has evolved, and how to make the most of it
How does retirement today compare with
what previous generations experienced?
Some aspects are obviously better. We’re
living longer, so retirees have more time
to dote on grandkids, pursue hobbies,
and volunteer.
What’s more, retirees on average are in
better physical condition, have access to
better health care, and have more education
to help enrich their golden years, according
to Stephen P. Utkus, head of Vanguard’s
Center for Investor Research.
One safeguard against health and financial
troubles in retirement: Stay active and, if
possible, keep working, at least part-time.
Many retirees appear to be doing just that.
Mr. Utkus said the percentage of older
workers still earning a paycheck hit a record
low in 1992 and has climbed ever since.
“While half of U.S. workers were still working
at age 62 in the early 1990s, now half are
still working at age 65,” Mr. Utkus said.
“The percentage of those working in their
70s is also higher.”
“And retirees with traditional pensions or
defined contribution plans such as 401(k)
or 403(b) plans are better off financially
than prior generations,” Mr. Utkus said.
That’s just one sign that retirement has
changed from a complete break with the
workforce to a transitional time when many
are exploring combinations of work and leisure.
But challenges to a financially secure,
fulfilling retirement remain.
Besides the financial benefits, Mr. Utkus noted
another reason older people aren’t as quick to
stop working entirely: “The research shows
that the dominant reason for continuing to
work is not to pay for basic needs, but to
provide structure, mental stimulation, social
engagement, and psychological well-being.”
For example, many lower-paying jobs have
not provided real wage growth in recent
years. That can crimp future Social Security
retirement benefits, because those are based
on a beneficiary’s earnings history.
Mr. Utkus pointed to another troubling trend.
For some time, health care costs have been
rising faster than inflation. Retirees can easily
underestimate their future health expenses,
putting a big dent in their budgets.
“We don’t know yet if increases in health
care costs will moderate over the long term,
although there’s been some progress recently
in cost containment,” Mr. Utkus said.
Beyond that, obesity and related ills such
as diabetes are on the rise, he noted, which
can hurt retirees’ financial well-being along
with the physical.
For information about Vanguard
funds, Vanguard Brokerage
Services®, or your account, call
us Monday through Friday from
8 a.m. to 10 p.m., Eastern time. For
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services: 800-662-7447 (Flagship
clients, 800-345-1344; Voyager
Select clients, 800-284-7245;
Asset Management Services
clients, 800-567-5163).
“After all, getting the most out of retirement
isn’t a matter of just having a longer life span
or a bigger nest egg,” he said. “We all need
purpose and meaning in our lives. Whether we
get that from our families, hobbies, community
or church activities, or jobs, we need a reason
to get up in the morning.”
These benefits can even help offset having
fewer financial resources than expected.
Comments?
Topics of interest?
Write to us at
[email protected].
“What makes for a fulfilling retirement is
a very personal matter,” Mr. Utkus said.
“We each have to think about what gives
us contentment and joy. No one can make
that decision for us.” ■
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