A Crash Course in Generating Retirement Income

NOVEMBER, 2010

We're sailing into uncharted waters with the looming retirement of the baby boom generation. Due to the shift from defined benefit to defined contribution retirement plans, most boomers don't have significant pensions from their employers and therefore don't have a guaranteed, monthly, lifetime retirement income.

Instead, most of you will be on your own to figure out how to use your IRAs, 401ks, and retirement savings to generate a retirement income that lasts the rest of your life, no matter how long you live and no matter what happens in the economy. To make this goal even more difficult, we're living longer than our parents, investment markets have become highly volatile, and we're facing the threat of high bills for medical and long-term care expenses.

This newsletter is devoted to explaining the various methods you can use to generate retirement income and to reviewing their pros and cons. This information will help you build your own retirement income, or enable you to have informed discussions with your financial advisor, should you decide that you need professional help with this task.

In my Money for Life online column at CBS MoneyWatch, I've been writing a series on this important subject and think it's a such a critical topic that I'd like to make that our focus this month. So let's start with an overview of the three ways to generate lifetime retirement income. This is a repeat from last month's newsletter, but given the importance of the subject, a review seems to be in order. The rest of the articles will be new and cover more ideas for generating the lifetime income you need during your retirement.

IRAs and 401ks: 3 Ways to Generate Lifetime Retirement Income

"In your retirement, don't spend the money in your IRAs and 401ks." Yes, I really said that. Instead, think of your retirement savings as a monthly paycheck generator. Then, spend no more than the amount of this monthly paycheck.

Set up this monthly paycheck to last for the rest of your life, no matter how long you live and no matter what happens in the economy. This might be a stretch goal, but nevertheless, that's what you should be planning for. Here's an overview of the three ways to generate lifetime retirement income:

Use just the interest and dividends from a portfolio balanced between stocks and bonds.
Invest your retirement savings, and draw down principal cautiously, so you don't outlive your retirement savings (a method known as "managed payouts").
Buy an immediate annuity.

The articles below elaborate on each of these three methods.

Use Just Interest and Dividends

This method usually produces the lowest amount of retirement income, but you're virtually guaranteed not to outlive your retirement income, and you maintain maximum flexibility. It's the way our grandparents' retirement worked. Read here for details.

Generate Retirement Income With Managed Payouts

With this method, you invest in IRAs, 401k accounts, and retirement savings, and then set up periodic withdrawals - typically monthly or quarterly - of investment earnings and principal. The goal is to draw down your principal cautiously, so you don't outlive your retirement savings.

This produces higher retirement income than just dividends and interest, but since you're withdrawing principal, there's a chance you could outlive your savings. The higher the rate at which you withdraw principal, the higher the odds of this unfortunate outcome.

Maximize Retirement Income With Immediate Annuities

Here you pay a lump sum to an insurance company, and they promise to pay you a fixed monthly income, no matter how long you live. This has the potential for the highest amount of retirement income, since you're essentially devoting all your principal to retirement income. Read here to learn more.

5 Tips for Buying an Immediate Annuity

Should you decide to buy an immediate annuity, here are some tips for getting the best deal from an insurance company. It definitely pays to shop around! Read here for details.

IRA and 401k Retirement Drawdown: Don't Die Broke!

Here I review the four percent rule, which is one method to help you implement managed payouts (that is, cautious withdrawals of principal). The four percent rule has been hotly debated in the financial literature since it was introduced by a landmark paper in 1994, and it's a good starting point for deciding what your withdrawal strategy will be.

Tips to Make the Four Percent Rule Work

This article discusses significant updates to the four percent rule, reflecting the recent market meltdown. It takes into account various ages at which you might retire, as well as real-world issues such as fees and expenses.

How You Can Generate Security and Flexibility

You can get the best of both worlds by taking part of your retirement savings and buying an immediate annuity and investing the rest of your savings to generate either interest and dividends or managed payouts. Read here for details.

Increase Security With an Inflation-Adjusted Annuity

One disadvantage to a fixed immediate annuity is that the purchasing power of your retirement income can be eroded by inflation. But you can address this issue with an annuity that's adjusted for inflation. Learn more here.

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Thanks for your interest, and stay tuned for future newsletters that explore how to best live the rest of your life.

Best regards,

Steve Vernon
Rest-of-Life Communications

P.S. If you think this newsletter will help a friend, please pass it along.

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Just Released

The Second Edition of

Recession-Proof Your Retirement Years

Simple Retirement Planning Strategies That Work Through Thick or Thin

I've updated this popular book to include investment results through the end of 2009 and the latest changes to Social Security. I've also added about 20 pages of content to cover topics that readers have requested. It's still short--under 100 pages--so it's easy to follow and easy to finish. And it still provides a step-by-step program to build reliable sources of retirement income that cover your living expenses and strategies to address the threat of high medical and long-term care expenses. The book is available for bulk purchase by employers and other organizations, or for individual purchase. Please see my website for details on all of my books and DVDs.

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Steve Vernon has spent 35 years as a consulting actuary, helping large employers design and manage their retirement programs. Now he's president of Rest-of-Life Communications, where he specializes in providing unbiased, trusted information about retirement. He also consults to Mercer's US Retirement, Risk and Finance business, and writes a regular column for CBS MoneyWatch titled Money for Life.

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For information on keynote addresses, workshops or presentations on retirement issues, visit Steve's website at www.restoflife.com, or email him at steve.vernon@restoflife.com

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