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Welcome to How to Retire on Time, a show that answers your retirement questions. Say goodbye to the oversimplified advice you've heard hundreds of times. This show is about getting into the nitty-gritty so you can make better decisions as you prepare for retirement. Text your questions to 913-363-1234 and we'll feature them on the show. Don't forget to grab a copy of the book, How to Retire on Time, or check out our resources by going to www.retireontime.com.
People hate when I say this. In each strategy, one is a very clear winner on the right move, and the other ones were terrible. Which one do you choose? That's the million dollar question. Welcome to the Retire On Time q and a podcast.
Mike:I'm Michael Decker here with David Frantzen from Kedric Wealth. This show is all about not the oversimplified advice you've heard hundreds of times. We wanna get into the nitty gritty. Text your questions to (913) 363-1234, and we will feature them on the show. Remember, this show is just a show.
Mike:It's not actually financial advice. Context is king. Do your research. David, what do we got?
David:Hey, Mike. What is the easiest way to break through all the jargon and compare income strategies for a soon to be retiree?
Mike:Yeah. I think the easiest way is to look at how or what is your cash doing. So how is it being managed, and what is it doing for you?
David:Okay.
Mike:Okay? So here's an example. You can grow your money in really two different ways. If you had to boil it all down, there's two different ways you're gonna grow you're gonna grow it. The first way is through the price appreciation or the price increase.
Mike:Okay? You bought your house in the eighties at a $100,000. Now it's worth a million dollars. That is a price appreciation.
Mike:K? So we're used to that by, you know, stocks. Nvidia, for example, Apple, you know, these great companies that have grown exponentially. You bought the price with the intention that it would grow and you would sell it at a later date. Are you with me so far?
David:Yeah. So this is your what do they call this? We want to avoid jargon, but this is an accumulation phase. Right?
Mike:Yeah. It's it's that you bought something with the expectation to sell it at a greater value at a later date.
David:Buy low, sell high.
Mike:That's it. Okay? The other one is through dividend or payout structures.
Mike:Okay? So you can buy something, and it just keeps paying you. That's that's the idea. So a couple of examples with dividend stocks. Probably the price probably won't grow as much as the actual, you know, the growth stocks would, but the dividends are really a different way to grow.
Mike:So if you think about it, the dividends growth, if you reinvested it, that's kinda like price appreciation, just structured in a different way. And the reason why this is important is because let's use real estate as an example. Because I brought that up already. The home value, hopefully, will appreciate, but you have the rental value. It's kind of an in between asset.
Mike:Mhmm. K? So maybe you're getting three or 4% of cash flow off of the rental property, and the rental property is growing at, I don't know, 5% overall. So in in essence, that's kind of anywhere from seven to 9%, and I'm really generalizing here.
Mike:I know the real estate market's done exceptionally well over the past several years. Doesn't mean it will always be well. All market cycle. But the point being is, D. C.
Mike:You to combine the dividend or the payout structure with the appreciation structure.
Mike:And sometimes you'll pick, I want a retirement income plan based on the growth of it, and I'll just sell and take my income off the profits.
Mike:Like the 4% rule, the idea you put I'm using not jargon terms right now. You put a bunch of money into a bunch of different investments in a portfolio at Vanguard, Fidelity, or Schwab, or wherever. K? And you hope that it increases in value, and you just sell a little bit each year, and you take a little bit out. That would be selling off of the growth.
Mike:That's fine. Mhmm. But then you've got these other strategies like rental income, where you've got the appreciation. You've got some payout as well, but you have risk associated with it. If the tenant destroys your property, you've got to pay for it.
Mike:Mhmm. Right? If if Apple makes some dumb moves, they're paying for it, but maybe your price will will fluctuate a little bit, but it's not the end of the world. Okay? I'd probably overcomplicate this, but I really wanna paint a nice, simple picture.
Mike:Now let's just do some, based on what I have seen lately, income strategies. You can diversify your assets with stocks and bond funds, put it into a portfolio, and historically, you're probably going to get six to 7%.
David:Alright, sort of on average.
Mike:On average. That's kind of what you would expect. Bond funds average two, three, maybe 4% on a good year. Stocks are in the seven, eight, 9% range. And before you say, well, I'm just gonna put everything in the S and P 500, keep in mind, the S and P 500 can go flat for over ten years, and in retirement, that destroys you.
David:Yeah. And tell us why. Why does that destroy
Mike:of returns risk. So if you if you lose money and you take money out while you've also lost money, that's a very sobering experience because it's harder to recover. Everyone looks at average returns. That's such a lie. Like, yes, it's important to know what the average returns are, but if you really wanna know what your portfolio is doing, look at the IRR, the internal rate of return.
Mike:So that looks at the return based on the cash value, so it brings context into the equation, and you can kinda see more appropriately what's actually going on. So the IRR, just to prove a point, the IRR from 2,000 to 2,012 of the S and P, if you just bought and held it Mhmm. Was like point 15% average annual IRR returns. Oh. That's the real number.
Mike:And then if you look at the IRR, let's say you have a million dollars, and you're putting in $40,000 a year Okay. Into it, your dollar cost averaging into your your account. Your IRR, your actual performance, is like point seven five point eight average annual return if you look at the actual performance. Now, yes, your balance would have increased because you've been adding it, but you you don't wanna distort a story.
Mike:And if you if you were to take, let's say, 40,000 out, like the 4% rule, from 2000 to 2012, your IRR is like a negative 13% annually.
David:That doesn't seem good.
Mike:Because when you take money out, your performance hurts. It's harder to recover because it's harder to grow less money. So that's why I wanted to have that that kind of basis of you might want to have some bond funds or buffered ETFs or something to stabilize the up and downs Mhmm. Because you don't want to accentuate those losses, but you can take money off of your growth. But now you have to assume, okay, well, I could take money off of the growth portfolio.
Mike:I don't have perfect or predictability. You have projections, but you don't know exactly what's gonna happen. It's not a guarantee. You've got more flexibility, which is a benefit. You're gonna take around 4% or so, whatever the portfolio value is.
Mike:And then the 2% that's left over, 3% of extra growth, is supposed to help hedge against inflation. That's the idea. And by the way, the person that invented the 4% rule, as I understand it, did not say put all your assets in the S and P 500. I think he was recommending something like a fifty fifty stock bond split.
Mike:Okay? Just so we have context. Now, you could take that and say, well, forget that. That's a bad deal. I'm gonna buy real estate.
Mike:Real estate, if you buy a good property in a good neighborhood, can appreciate value, but you need to understand the cash flow might be around, I don't know, three, four, maybe 5% if you buy a really good property and you don't maintain the maintenance and all of that. And so you have to you gotta pay the piper somehow. Yeah. But do you see how we could take off 4% growth or 4% from 4% from the home? And then the the extra appreciates over time, and you increase your rent by 2% a year.
Mike:Ugh. So it ends up being kind of the same thing. It's the same the same roughly the same cash flow, but it's not the same risks. K? Let's do another one.
Mike:Let's do real estate, but instead of us doing real estate through private placement, like you're buying the actual you know, it's it's your private placement, let's do private equity.
Mike:So in the the world of stocks or equities, you can buy common stock or you can buy preferred stock. Now preferred stock, that's that's basically, you're getting the benefit here. You're paid first. And preferred stocks, the typically what I see in structure is that the stock value won't really increase. So you put in a $100,000.
Mike:Five years later, you're gonna get a $100,000 back.
David:This is with preferred stock?
Mike:This would be a preferred stock in the real estate era. So it's equities, publicly traded, but you can get the preferred the preferred placement, which that's private access. You can only get that through a financial adviser, and you might get, like, an eight to 9% payout.
Mike:That's, like, really good. Right?
Mike:That seems like a good deal.
David:It does.
Mike:Well, remember, if if rent's not collected or anything happens to the real estate market, that's not a guaranteed payout. It is a payout as long as things happen according to plan. Oh. So you're getting paid slightly higher than what the what what the normal risk metric would be. And then part of that mind, this is where people get it wrong, that 9%, you don't spend it all.
Mike:You probably wanna reinvest part of it to help grow your portfolio and advance it moving forward with inflation. So again, we've kind of taken the same metric of how much income you can take and repackaged it in a way that needs to be managed for income, inflation, and a hedge against risk because it may not pay out. And a preferred stock typically is illiquid for a certain period of time. Can you imagine buying something, not getting two years of payments? Maybe it eventually comes back.
Mike:Maybe and maybe they back pay and they catch you up, but still a tough two years.
David:Yeah. And why wouldn't you get the payments? Was it meant to be that way?
Mike:Well, if they don't get paid, you don't get paid.
David:Oh, I see. Yeah. And so there's that risk.
Mike:They are obligated to pay you before the common stockholders. Oh. And the common stockholders really kinda get screwed half the time, but that's a whole another point.
David:Alright.
Mike:K? Then you've got other like a CD ladder or a treasury ladder. So a treasury ladder, it's not bad. It's just you're growing at a fixed rate, so you have not market risk, you've got inflation risk. So you can ladder out ten, twenty years of fixed accounts if you want.
Mike:I mean, that's very doable. But instead of your overall portfolio advancing at, let's say, six to 7%, you're getting four or 5%. Mhmm. Which means you're getting the cash flow, but there's no regard to inflation. So you've got to plan accordingly, and you're kinda going backwards.
Mike:And if inflation gets out of control, then your fixed accounts grow at that fixed rate, they will lag inflation. So there's inflation risk. It's not market risk.
David:I
Mike:see. Let's do the annuity space.
Mike:So lifetime income from an annuity, the way to look at it is you're gonna put, let's say, a million dollars or a $100,000, whatever you want in there, and these rates change. Every carrier is gonna be different. It's gonna depend on your age, so please don't say, well, Mike said I was gonna get this much. I'm just gonna use this as an example.
David:Alright.
Mike:Okay? Let's say they're gonna give you 7% for life. K? So a million dollars, you get 70,000 back every year for the rest of your life.
David:Alright.
Mike:What's the risk? Inflation risk. It's not gonna increase in value, but you know what? You're getting basically the same thing as the stock bond fund portfolio where the portfolio was growing at around 7%, you had more flexibility where you've given it to an insurance company with a structured payout. At least it's guaranteed for life, so you've transferred longevity risk, but you've got inflation risk.
David:So you kind of the was it lesser of two evils?
Mike:You can't cheat income. What it all boils down to is which strategy is most suited for you based on your emotional tolerance?
Mike:Okay? Because in in each situation, one, whether it's the stock bond fund mix, whether it's the CD ladder mix, whether it's the the lifetime income stream or something we we use. It's called a dynamic reserves. Basically, you just you've got some assets that are protected like buffered ETFs or indexed annuities where you have a five year period certain. K.
Mike:And you turn that on when the markets go down to help hedge against what's called a sequence of returns risk. In any given strategy, there are seasons where one does way better than the other. Each one though, and people hate when I say this. Uh-huh. They they hate it because everyone wants to be right.
Mike:But in each strategy, one is a very clear winner on the right move, and the other ones were terrible. Which one do you choose? That's the million dollar question. And what's difficult is I have found a lot of financial professionals wanna sell one strategy because it's the one they're most comfortable with. I think people should have the options.
Mike:They need to understand the risks associated with those options. You need to understand that if you have more money, you can maybe afford to take some more risk. Because a medical bill is the same medical bill regardless of how much money you have. I mean, I guess you could talk about Medicaid and certain things like that, but that aside, you know, the cost of food is the cost of food. Mhmm.
Mike:Your body needs so many calories. It's easier for the wealthy to maybe eat out a little bit less, but if you're retired and you're living very frugally, you've got different risks to understand. So, all things being said, I think the best way to figure it out is put your plan together first, figure out then how much income you need. Because it doesn't have to be all synchronized. Like, can have three years with maybe a little bit higher distribution.
Mike:So a higher let's say, the first five years, or three to five years are like 7% withdrawal rates. And then when Social Security kicks on, it's like a 3% withdrawal rate. So do you see how it shifts a little bit? Oh, yeah. And then you explore some strategies just to make sure you're not gonna get into any tax issues, you're not gonna get into any health care issues, things like that.
Mike:And then look at what does income look like when Social Security turns on, and what do you really need. Solve that one first. Because if you can solve that one first and make your income and your Social Security income very tax efficient, you're tax efficient for life. And you want to consider these things like, you know, gosh, the standard deduction for a couple of years, the one big beautiful bill deduction, and so on. But put it all together, and then fill in the gaps as you need so, as as it as you see fit.
Mike:Then when you compare the income options, just look at it from what is the expectation of the price appreciation or the dividend or payout rate, combine the two, and then identify the risks associated with it.
David:Ah, okay.
Mike:If that works and you're comfortable with it, great, do
David:it. Yeah.
Mike:If you're not, do a different plan. They all can work. It just depends on what's right for you. Uh-huh. And if you really want a tip Yeah.
Mike:Here you go. Because we we have three three options we typically we go with. One is the dynamic reserves. So it's it's more flexibility, more on that stock bond fund kind of mix with some strategic allocations there. There's the baseline.
Mike:So you buy the lifetime income annuity. Basically, the the essentials that you need, and then everything else is invested. And then you've got the laddered approach, usually for the first five years or so, just ease into retirement. Mhmm. But regardless, if you really wanna understand what all of this that I'm talking about is, go to retireontime.com and buy my workbook.
Mike:It's over a 100 pages. And it itemize or just line by line, strategy, how it works, benefits, detriments. Strategy, how it works, benefits, detriments.
David:Okay.
Mike:Yeah. I don't I'm so neutral, it it almost annoys people because they want me to give them opinion. It's not my job to tell you how you're supposed to feel, it's my job to help you understand what you're saying yes and no to. We want to find that solution, and I wrote the workbook to help with that.
David:And so if I the first thing we have to have is a plan, as you mentioned. So what would my plan say? I wanna travel a lot the first five years, and then I wanna slow down for that. And then we can use these strategies to help make that plan a reality. Is
Mike:that Build what your life first.
Mike:You know, that's that's the idea of retirement is that you're enjoying yourself.
Mike:Once you understand that, maybe there's two years of extensive travel, and then you're kinda done. That's fine, you know? A great trip to Australia and travel Europe a little bit, and then you're done. Maybe that's your retirement aspirations. I don't know.
Mike:But put that in there as your guideline. Don't say, well, here's my portfolio. I can only take out 4%. That's just it. I have to deal with that.
Mike:No. Build your plan out first. Do the numbers work second. And then third, you look at the strategies. Once you understand the strategies, the tax minimization, health care coordination, and so on, then you build your portfolio, and that's when you decide which income strategies, which growth strategies, which fill in the blank strategies or tools do you want in your portfolio to support and execute those strategies and to then bring to life the plan.
David:And so you wouldn't say one of those strategies you just discussed was better than the others? Like, we we we could do I want a lot of equities, right, that I'll sell later, or I want some lifetime income and everything in between. You you wouldn't side with one of those, or would you?
Mike:If I knew the future, I I would absolutely side
David:with one of Yeah.
Mike:But I don't. Right. If I and part of this too is understanding how much income do you want, what's your Social Security benefit, and so on. But generally speaking, if I knew the next ten years were gonna be a flat market cycle Uh-huh. I would put a part of my assets in a flat annuity.
Mike:And I don't like annuities. I really don't like lifetime income annuities because I like flexibility. I like when the markets go down, and I can just just go back in and buy the dip and so on. Like, I I really appreciate that.
Mike:But for most people, they probably would rather have some sort of baseline to cover with Social Security. Just that that's that's that amount there. I mean, look. When we looked at the S and P five hundred's average return
Mike:It was less than 1%. Even dollar cost averaging into it didn't break 1% on the internal rate of return.
Mike:You know what that 7% guaranteed income for life is going to be? 7% every year. It may not keep up with inflation, but it's one of the best deals you can have in a flat market cycle.
Mike:Now you could you could hope that you're gonna get the 9% from real estate, but in a flat market cycle, people stop paying rent. Markets crash. People lose their job. It's a very difficult time. So that's not guaranteed.
Mike:I see. You might get some bonds, but if you're getting a seven, eight, 9% bond, you're taking high risk. So to give up a little liquidity for a sure thing, you know, as good as the insurance company is, don't don't entertain the the crap, you know, the I shouldn't say crappy. The lower rated companies be very like, you want the you need these companies last. But having a part of that, I think, could offer some some real emotional stability for if the next flat market cycle were upon us.
Mike:And then I would I would then focus more heavily on the dynamic reserves with the idea of overfunding the dynamic reserves. I might miss a couple of good years. Let's say it's like the next two years are just gangbusters.
David:In the market.
Mike:Yeah. But when the markets then go down, the market would then be a lower value than it is today anyway. I would sell those buffered ETFs, or I would sell the fixed indexed annuity, for example. I'd take the income that I want, and everything else I would have, would just throw into the market. This is an over generalized strategy.
David:Sure.
Mike:Conditions can change. Yeah. But I would want, personally, to maybe have some sort of baseline, some sort of guarantee instead of like a bond fund paying out 4% or 3% or whatever it is, or bonds themselves and their coupon rate. I want something that's guaranteed to have a 7% as the baseline, and then be very aggressive in the management. But I can't tell you how many people come to the office and they say, I've never really done this before.
Mike:I don't want to deal with it now. What's an easy way to just handle this? The annuity is, by definition, annuity is a structured payout. It's like a pension. It's like Social Security by definition.
Mike:It is not Social Security. It is not a pension, but by definition, it it's struck it's a structured payout. So that's not for annuities. I'm really trying to emphasize that you had better want the consequences of what you want. In that, whatever strategy you want, just know the risks that are associated with it, and then proceed informed.
Mike:That's it. I think that's all the time we've got for today's question. If you enjoyed the question, consider subscribing to this, and, hey, stick around. We've got more and more coming to you this way. Also, go to retireontime.com to download the book, the workbook, join a workshop where I build retirement plans live.
Mike:That's right. Live and answer your questions along the way and so much more. All of that is available at retireontime.com. We'll see you in the next show.