What to Do When the Pandemic Forces an Early Retirement

What to Do When the Pandemic Forces an Early Retirement

 

 

Because of the pandemic, many companies are trying to rapidly reduce their workforces. Boeing recently offered their voluntary layoff (VLO) to encourage employees near retirement to do so. Other companies will resort to traditional layoffs.

What should you do when you find yourself unexpectedly retired—whether voluntarily or not?

 

Assess the Situation—Review Your Numbers

Retirement is a major life change for everyone—even more so when it happens unexpectedly. The first step financially is to get a clear picture of your assets. This includes investment accounts and savings. It also includes debts like credit cards and mortgages. In addition, you’ll want to identify current or future sources of income such as pensions or Social Security.

Next, you’ll want to be clear about how much you’re spending. Free or low-cost tools like mint or YNAB can help you easily track how much you’re spending as well as categorize your expenses. That may make it easier to see if there are ways to reduce costs, if needed.

Knowing your minimum monthly costs is a major part of determining if you have the resources to retire successfully or if you need to find another way to work and earn money before retirement.

 

Identify Adjustments

If you’re unexpectedly retired, identify if you need to reduce your expenses. Some of those reductions may happen automatically—most families aren’t spending as much on travel right now—while other reductions may require more planning.

You’ll want to account for healthcare costs. For some, employers may continue to provide health coverage until Medicare begins at age 65. For others, health insurance will have to be purchased either through COBRA to maintain the current health insurance or through the individual markets. These policies can cost significantly more than when the employee was working, although by carefully structuring income, it may be possible to get subsidies to reduce this cost.

Identify if you need additional sources of income. This may come from part-time employment. It may also come from reviewing your Social Security strategy. Social Security benefits can begin as early as age 62, although doing so will permanently reduce your benefit. Take time to compare the tradeoffs of starting your Social Security benefit at different ages.

Finally, review your investment allocation. You’ll want to make sure you have an appropriate percentage providing stability (cash, CDs, short-term bonds) to protect you from the fluctuation of the market when you need the money. With a retirement period of 30 years or more, stocks will likely be an important part of your investment strategy, too.

 

Do Some Tax Planning

It’s important to identify what mix of accounts you have. IRA, Roth, and taxable accounts are all taxed differently. It’s often best to spend from the taxable account first, then the IRA, and save Roth accounts for last, although there may be times where it’s better to use a mix from different types of accounts each year.

Many early retirees temporarily find themselves in a lower tax bracket because they don’t have a salary and they haven’t yet started Social Security. This may be a time to take advantage of Roth conversions. Moving money from a traditional retirement account to a Roth account now, while you’re in a lower tax bracket, can significantly reduce taxes over your lifetime.

 

Planning Beyond Money

When a major change like this occurs, it’s important to take care of your finances. It’s also important to take care of your mental health. Retirees often have years to plan for this major life change. Because of the pandemic, many are making this change suddenly and unexpectedly.

It’s essential to take the time to set a new routine and identify new hobbies or other activities to incorporate into your life.

 

Conclusion

When retirement is unexpected, it doesn’t have to be scary. Building a financial plan to determine if you’re on track to meeting your goals, to discern what adjustments should be made to help you reach those goals, then to execute that plan can help provide the peace of mind brought about by a successful retirement—even when it comes sooner than expected. If you want help with this process, reach out to us

  

Ask Merriman: SIPC Coverage

Q: Brokerage houses have additional insurance that covers certain events relative to my deposit. Should I be concerned when the funds on deposit at a major brokerage exceed the insurance limits?

Let’s assume this refers to SIPC coverage brokerage firms use. While loosely similar to the more familiar FDIC insurance to cover bank deposits, SIPC insurance is much more limited in scope.

Essentially, SIPC insurance provides coverage from loss due to the brokerage firm going out of business. It provides up to $500,000 of protection on securities and up to $250,000 in cash in excess of what is recovered. It does not provide coverage from a decline in the value of investments.

To help visualize an example of when SIPC would come into play, let’s use an example of a $5 million client account:

· Assume the brokerage firm fails, resulting in $5 billion of client claims on assets.

· Assume 90% of clients’ assets ($4.5 billion) are recovered. The actual historical recovery rate is 98.7% according to SIPC.

· The client in this example holding $5 million in SIPC eligible assets would receive $4.5 million from recovered assets and $500,000 from SIPC. The loss to the $5 million client account would be zero.

It’s exceedingly rare for a client to be entitled to recover damages under SIPC and not be made whole because of the $500,000 limit.

Also, most large brokerage firms purchase “excess of SIPC” insurance, which insures clients for any losses above the $500,000 limit.

Ultimately, clients do not need to be concerned when funds at a brokerage exceed the coverage limits.

More detailed information about SIPC coverage can be found here.


 

Do you have a question about investments, taxes, retirement or insurance? Send it to “Ask Merriman” and one of our financial advisors will help you find an answer.

Ask Merriman: Required Minimum Distribution (RMD)

Q: I turned 70 ½ in 2016, but waited until March 2017 to take my first required minimum distribution (RMD). I planned to wait until 2018 to take my next distribution. Am I understanding correctly that I must take the second RMD in 2017, too?

You are only allowed to delay your RMD the first year you take it. You can delay as late at April 1 of the year after you turn 70 ½.

In every subsequent year, the RMD must be completed by December 31 of that year. If you delay taking your RMD the first year, it means you will have to take two RMDs in your second year.


 

Q: Are Roth accounts subject to an annual required minimum distribution (RMD)? I thought only traditional retirement accounts were, but I’ve been hearing differently.

Roth IRAs are not subject to an annual RMD. However, if your employer offers a Roth 401(k), that is subject to annual RMDs upon reaching age 70 ½.

Fortunately, if you want to avoid taking distributions, it’s possible to complete a rollover from the Roth 401(k) to the Roth IRA. This should allow you to avoid having to take an annual RMD from your Roth money.


 

Q: Do the required minimum distributions (RMDs) from IRAs that become effective in the year I turn  70 ½ apply only to IRAs, or do they also apply to 401(k)s? More specifically, if I am still working full time, does the RMD requirement apply to my 401(k)?

If you’re still working when you turn 70 ½, you may not need to take an RMD from the 401(k) at your current employer if the following conditions are met:

  • You’re employed throughout the entire year
  • You own no more than 5% of the company
  • You participate in a plan that allows you to delay RMDs

You must take your first RMD from the 401(k) the year you retire. In that year, you have until April 1 of the following year to take the distribution. However, if you delay, you‘ll end up taking two RMDs the second year.

The RMDs that become effective the year you turn 70 ½ still apply to all traditional IRAs, and all other 401(k)s and Roth 401(k)s.


 

Q: If I decide to give my RMD to my church, do I need to give the entire withdrawal amount required by the IRS, or can I just give a portion and keep the rest for other living expenses?

You don’t need to give the entire RMD amount to your church (or any charity) to complete a Qualified Charitable Distribution (QCD). The QCD can be less than or more than the RMD, up to a $100,000 limit per taxpayer per year.

A taxpayer with a $19,480 RMD in 2017 could certainly make a $5,000 QCD, and take the rest as a regular distribution for living expenses.

The key points to remember when completing the qualified charitable distribution from an IRA to a charity are that the IRA owner must:

  • Already be age 70 ½ on the date of distribution.
  • Submit a distribution form to the IRA custodian requesting that the check be made payable directly to the charity.
  • Ensure that no tax withholding is being made from the QCD to the charity.
  • Send the check directly to the charity, or to the IRA owner to be forwarded along to the charity.

 

Do you have a question about investments, taxes, retirement or insurance? Send it to “Ask Merriman” and one of our financial advisors will help you find an answer.

Convertible bonds as an asset class?


Please share your view of convertible bonds as an asset class for folks entering retirement.


Convertible bonds are a unique asset class in that they have features of both stocks and bonds. They are often referred to as “hybrid” securities. This, along with their typically sub-par credit rating, is why they do not fit into our bond portfolio.

We prefer to keep the stock and bond components of our portfolios separate. Our bond portfolio is designed to buoy the allocation in times of stock market stress. The potential for convertible bonds to act like stocks does not jive with this logic. If convertibles – due to their hybrid nature – were showing stock-like tendencies when stocks were declining, your portfolio would have much less downside protection. As we have seen in the recent past, it is extremely important that investors maintain some level of protection in their portfolio. We do not believe convertible bonds are the solution. (more…)

Adding bonds in preparation for retirement


At 61 years old, what is the best way to transition from an all stock portfolio to a 60% stock 40% bond portfolio?

 

This is a difficult question to answer without knowing your specific set of circumstances. To narrow the scope I will assume the following: 1) you will retire at 65, 2) you will take a 4% annual distribution from the portfolio upon retirement, and 3) you are using a globally-diversified portfolio like the one we outline in The Ultimate Buy-and-Hold Strategy.

Regarding the third assumption, it is extremely important to understand that different portfolios have different risk characteristics. A 60% stock 40% bond (60/40) portfolio allocated to the S&P 500 and high-yield junk bonds is entirely different and much riskier than the one discussed in the aforementioned article.

That said, I would make the switch immediately. With four years until retirement you cannot afford to subject the entirety of your portfolio to the risks associated with stocks.

For perspective, consider that the financial crisis cut the average stock portfolio value in half. Taking distributions from an all-stock portfolio during such a time period has disastrous consequences on the longevity of your assets. This is why, as investors near retirement (the distribution phase of a portfolio), they should – as you’ve indicated – consider adding a preservation component (bonds) to their portfolio.

If the goal is to achieve a 60/40 allocation by retirement, many people will initiate the transition process around the time they reach age 50. This longer time frame for transition allows the use of ordinary cash flows and rebalancing opportunities to make it a cost-effective and natural process. Your situation calls for a less subtle shift. Nonetheless, it is a shift in the right direction and, as mentioned above, I would proceed.