Much has been written about asset allocation. Sometimes it seems that almost every document produced by an investment firm either contains a pie chart or makes reference to the percentage of assets that should be held in a particular class or for particular investors.

Much has been written about asset allocation. Sometimes it seems that almost every document produced by an investment firm either contains a pie chart or makes reference to the percentage of assets that should be held in a particular class or for particular investors.

By contrast, it seems that comparatively little has been written about “income allocation,” the percentage of a retiree’s income that is guaranteed versus that portion which is at risk. Of course, the quality of a guarantee can vary, as do risks. So within those two broad categories are several sub categories. These can be thought of as producing a pie chart representing all of the sources of your income. The first division of this ‘income-related’ pie chart breaks income into guaranteed and non-guaranteed sources.

Social Security and Pension Income

Social Security and pensions are two examples of guaranteed income sources:

  • Because Social Security income has government guarantees, inflation protection and longevity protection, many, if not most, retirees should regard their Social Security income as the most important slice of the pie.
  • Pension income may also be a valuable source of guaranteed income to retirees because of the strength of its protection. But pensions, sadly, have become rare, a decline in usage that came about as companies transferred their risks back to their employees. For some, the void left by the decline in pensions may have been addressed with annuities, a product that may offer guarantees and characteristics that are not available in other financial products. Determining whether an annuity is a solution within the best interest of a retiree or a retired couple should be carefully considered by understanding all of your options, need, and preferences, and may include details about your situation, financial markets, and an understanding of your own personal risk tolerance. 

Dividends, interest, and Individual Retirement Account distributions are not guaranteed and, in some cases, may be risky. One particular risk associated with IRAs, 401(k)s, and other defined contribution plans, is determining a safe withdrawal rate. Distributions from these plans have a defined minimum, of course, generally called “Required Minimum Distributions.” However, while there is a floor on how much retirees have to take from their defined contribution plans, there really is no established ceiling and drawing down these accounts too aggressively and early in retirement may cause problems when old age arrives, including paying more in taxes. Again, obtaining advice from an expert can dramatically improve results over the long term.

Studies generally show that an increasing portion of income for most retirees is Social Security. On the one hand, this may not be such a bad thing since that income is likely to continue and be available regardless of financial market conditions. On the other hand, for affluent retirees or those whose income needs are simply higher than their Social Security benefits, it can be risky to count on a large portion of income from sources that may prove to be unreliable.

What’s the right income allocation for you?

Asking about how your income allocation may change over time and what it will mean for you in the future are not simple questions. Clearly the answer depends on a variety of factors such as your existing resources and willingness to risk a significant course correction during your retirement. For many retirees, this can be a delicate balancing act that will likely require professional advice.

By establishing a relationship with a Janney Financial Advisor, we can build a tailored financial plan and make recommendations about solutions that are aligned with your best interest and unique needs, goals, and preferences.

Contact us today to discuss how we can put a plan in place designed to help you reach your financial goals.

Janney Montgomery Scott LLC, its affiliates, and its employees are not in the business of providing tax, regulatory, accounting, or legal advice. These materials and any taxrelated statements are not intended or written to be used, and cannot be used or relied upon, by any taxpayer for the purpose of avoiding tax penalties. Any such taxpayer should seek advice based on the taxpayer’s particular circumstances from an independent tax advisor.

 

About the author

Michael Repak

Vice President & Senior Estate Planner

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