Preparing for Retirement

Those nearing retirement age are facing new and bigger challenges than previous generations. That means your challenges in helping them are new and bigger as well.

By Lynn Vincent

Dr. Jones, 64, an affluent Des Moines, Iowa, physician, was all set to glide into retirement when he learned that his nest egg wouldn’t be hatching the life of post-career leisure of which he’d dreamed. The good doctor had a portfolio worth more than $1 million. But he also maintained an expensive winter home in Florida, carried multiple country club memberships, and liked to buy extravagant gifts for family and friends. He hadn’t planned on changing any of that in retirement. Plus, he’d intended to send his grandkids to college—all this by drawing on his portfolio at an annual rate of 10 percent, or about $120,000 a year.

“The biggest mistake we can make as advisors is assuming that clients know everything because of their position in life and their education.” —Gary Fleming, Fleming Financial Service

Then he sat down with advisor Drew Denning and, after some number crunching, learned that his portfolio would sustain only half of that. Something would have to change, or he would run out of money well before he ran out of life. “There was going to have to be some change in lifestyle, or the grandkids’ education would have to go,” says Denning, second vice president for income management at Principal Financial Group in Des Moines. “It was a very painful conversation, not pleasant for him to hear.”

Dr. Jones isn’t alone. Most workers have no real idea of how much it will take them to live comfortably in retirement. Only about four in 10 workers have taken steps to calculate what they’d need to save by the time they reach their golden years, according to the Employee Benefits Research Institute (EBRI). Meanwhile, with 401(k) balances torpedoed by the turn-of-the-century bear market, many near-retirees, once content to plan their own retirements, are throwing up their hands and asking, “What now?”

Advisors can fill that knowledge gap by proactively educating—and regularly coaching—near-retirees on issues such as income stream, beating inflation, financing health and long-term care, inheritance management and making sure they don’t outlast their money.

Filling in the gap
A surprising number of near-retirees haven’t planned for, or even given much thought to, such savings-draining details. According to EBRI’s 14th annual Retirement Confidence Survey, more than four in 10 people over age 55 have given “little” or “no” thought to longevity concerns; nearly half have given little or no thought to health-care costs not covered by Medicare; and nearly two-thirds have given similar short shrift to long-term care needs. In the 45 to 54 age group, the figures were even more dismal: Six in 10 people have given little or no thought to longevity and health-care issues, while more than three-quarters have pretty much ignored long-term care considerations.

KEYS TO RETIREMENT PLANNING

Proactively educate and coach near-retirees about income stream, beating inflation, financing health care and long-term care insurance. Let clients know that going it alone with an inheritance can lead to problems. Many near-retirees have never done a budget, but doing one is critical to the retirement-planning process. Ongoing client contact is key in making the pre- to post-retirement move with your client.

“People approaching retirement … sometimes don’t have their feet on the ground,” says Gary Fleming, principal of Fleming Financial Services in Pittsburgh, and a member of Pittsburgh AIFA. “The biggest mistake we can make as advisors is assuming that they know everything because of their position in life and their education.”

Denning agrees: The information gap “cuts across professions and income levels.”

Part of the problem, advisors say, is that with today’s do-it-yourself retirement funding, of which 401(k) plans are often the foundation, workers tend to take a hands-off approach to retirement planning in the mistaken belief that since their employers are sponsoring their defined-contribution plans, nothing too awful can happen. “The company is ‘handling it,’” they seem to think, just as the company handles other benefits, such as health insurance, group life and bonus pay.

“There’s an interesting phenomenon with 401(k)s,” Fleming says. “While they’re working, people generally are somewhat disinterested in their 401(k)s. They’ll sit down occasionally and quickly pick [a new allocation] like they’re picking a horse. … They’ll look at their statements and say, ‘Oh darn, it went down $20,000, but everyone else’s did, too, so I’m okay.’”

Then comes rollover time and “they go insane,” Fleming says. “They look at their statements and say, ‘Omigod, I lost a thousand dollars! What happened?’”

Changing paradigm
Here’s what happened: Market volatility met do-it-yourself retirement. Go-go 401(k) account holders learned that despite the economic boom of the 1990s, the law of market cycles had not been repealed. Add that to increasing longevity and the demise of defined-benefit plans, and you have a whole generation of near-retirees facing retirement with no pension, no gold watch—and often no guaranteed retirement security such as that enjoyed by their parents.

Older Baby Boomers “who are preparing for retirement are getting caught off guard,” says Mike Glackin, vice president at KDB Resources in Media, Penn., and an independent representative affiliated with Nationwide. “They don’t have the pension their parents had, but were told too late in life they’d have to save for retirement on their own.”

Those changes have required a paradigm shift. In the old days, managing retirement savings went like this: Step 1: As client nears retirement, throttle back on risk until all assets are in fixed-income investments, such as CDs and annuities. Step 2: Client draws fixed income for life.

With increased longevity and the increasing necessity that workers’ portfolios—and not their employers—generate a retirement income, Glackin suggests a new allocation paradigm for near-retirees: A 60-40 split, with 60 percent in income investments and 40 percent in equities. The idea is to generate a monthly cash flow using fixed investments while leaving a portion of the client’s assets to appreciate over what might be considered a new time horizon.

Traditionally, most investors pull out of equities almost entirely in retirement to avoid even a whiff of risk. But the new longevity means some near-retirees have nearly as long to let their assets grow as do 40-something clients who are just getting started in saving for retirement. For example, if a client is 55, that leaves a statistical 20- to 25-year time horizon.

Glackin calls the 60-40 split a “moderately conservative” allocation, and stresses that he’s not dogmatic about it since each investor’s needs and risk profile will vary. He admits it’s a more aggressive approach than most people are used to seeing in retirement, but says he has clients who see it as a viable way to make their money last.

Misplaced confidence
The percentage of workers who are “very confident” that they will have enough money to last through a comfortable retirement hasn’t changed much over the past 10 years, according to EBRI. In 2004, about one-quarter of respondents felt that way, while another 44 percent were “somewhat confident,” bringing to nearly seven in 10 the total number of people who feel pretty darn good about the whole retirement thing. That led EBRI to conclude that “retirement confidence overall does not seem affected by either stock market performance or varying economic conditions.”

But maybe it should be.

“Folks now approaching retirement have been hurt considerably with the change of the markets,” says Gary Chard, an investment advisor for the Principal Financial Group and member of Rochester AIFA. “Some lost their jobs or were downsized. Right now, about four in 10 of my clients would prefer to stay employed for a couple more years to get their 401(k) balances back up."

But for some clients, staying employed in the same job isn’t an option. More and more, advisors are working with clients who, as part of “retirement,” are actually planning to go back to work. Most often it’s to stretch investment and savings assets until Social Security kicks in. But other near-retirees plan to return to work to finance the proverbial “lifestyle to which they’ve become accustomed.&rddquo;

Managing an inheritance
Some near-retirees are rescued by a windfall, often in the form of an inheritance. Glackin is starting to see more of that with his clients, as older Boomers’ even older parents die. Glackin has this advice for advisors on counseling clients in their use of inheritance windfalls: Don’t try to do it alone. “There are a lot of different things at that point that the client needs to consider, including investments, tax consequences, asset protection and trusts. Bring in key folks to help you help the client manage those assets.

Also in clients’ best interests: Getting them up to speed on such issues as life insurance, estate planning and health care. Failure to do so “can derail a retirement plan as quickly as a down market, and people often aren’t considering those things,” says Dick Miller, president and CEO of AIG American General’s Independent Advisor Network in Houston.

Taking stock
Before Fleming makes any plan at all, he learns as much as he can about his near-retiree clients. He begins with what might be called a “grocery bag confessional,” a method that results in not only the client’s education, but also his own.

Glackin suggests a new allocation paradigm for near-retirees: a 60-40 split, with 60 percent in income investments and 40 percent in equities.

“I inventory everything. I tell clients to bring me everything they have” related to retirement assets and liabilities. “I don’t care if they bring it in a grocery bag—and they often do,” he says. “The trick is they’ll always bring in the stuff they want you to see, but won’t bring in the rest. I tell them I want to see everything: The mutual fund they bought from their nephew, the irrevocable trust they bought at the seminar, even the long-term care insurance they bought from AAA. Gather it up, come in and confess.

Fleming says this initial step helps him learn a world about his clients: Are they risk-averse or opportunistic? Are they micromanagers or folks who don’t care much? Have they done much planning?

Most importantly, the grocery bag reveals the client’s true tendencies—and can help avoid the fate of the Des Moines physician who was faced with having to chop his lifestyle in half. “It is imperative that you realize what the client’s spending habits are going to be,” Fleming says. “You have to go by the paper trail you see.”

For example, the client proposes a post-retirement budget of $2,000 a month. But you see that they made $100,000 last year, and didn’t save much because of lifestyle choices. That means you know they’ll probably need a $60,000 budget, no matter how loudly they protest that they can make it on $24,000.

Preretirement budgeting is itself a sticky issue. “I’m astounded by how many times, when I ask a 60-year-old if he’s ever done a budget, the answer is no,” says Glackin. But getting the near-retiree’s budget right is critical. Glackin discusses each trial budget with the client, then reviews the various components of their retirement assets. If they’ve generated enough assets, the next step is to calculate the annual withdrawal rate required on existing assets to generate the income they need.

“Then we show them a portfolio option that would generate that interest rate,” Glackin says. Of course, if a 60-year-old’s budget requires a 10 percent return, the client may need to trim fat. That may mean selling a home and moving into a monthly rental community using home-sale assets, or even working longer. The key is to know your clients, he says: “If you know they can’t get more aggressive in their portfolio because their gut won’t allow them to, better to trim the fat.”

Building trust
The necessity to trim at all can be reduced by reaching clients early with preretirement education. But you can’t educate people who don’t trust you. Principal’s Gary Chard has built trust—and his near-retiree book of business—by encouraging one 401(k) sponsor firm to invite him in on an annual basis to do employee education. Chard pops into the company’s offices around November, just before tax season, and talks to employees about the importance of saving, finding money to save, rates of return and how much money they’re likely to need for retirement. Chard also makes himself available once a quarter in the firm’s HR department. Such ongoing client contact, says the Principal Group’s Drew Denning, is critical for coaching near-retirees toward a successful transition. He encourages advisors to sprinkle their calendars with follow-ups with near-retirees on a regular basis, beginning from two to 15 years out. That practice will help pinpoint problems that materialize over time.

The point, says Denning, is that retirement is no longer a one-time event. So for advisors, this means that helping each client plan for retirement isn’t a one-time event either.

Lynn Vincent is a frequent contributor to Advisor Today.