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How Much Safe Retirement Income Do You Need?

Monday’s post about building a super-safe retirement portfolio drew a few questions about how to take the same idea, but scale it down a bit. For example, one reader asked:

“Could it make sense to do this ‘super safe’ sort of thing with a part of my portfolio, but use regular stock and bond mutual funds for the rest of it? I was fortunate enough to get to choose when I retired, so I think my savings are adequate. But I still like the idea of having some income I don’t need to worry about.”

In short, my answer is an emphatic yes. I think most retirees would do well to use safe sources of income to satisfy their most basic spending needs. Then, once you’ve satisfied your must-have level of income with safe, inflation-adjusted sources, it can (depending on your preferences) make sense to use a higher risk allocation for the rest of your holdings in the (quite reasonable) hope of earning higher returns.

Prioritizing Your Spending

My best suggestion for how to implement this idea is to run through your current budget, consider how it will change in retirement (if you’re not already retired), then ask yourself which budget items you could eliminate or reduce without feeling that your standard of living was disappointingly low.

In other words, rather than simply shooting for one retirement spending goal, try breaking it down at two different levels:

  • “I do not want to have less than $X per year” and
  • “I hope to have $Y per year.”

Then, depending on your risk tolerance, you can pick which of those levels you want to satisfy via safe, inflation-adjusted income sources such as Social Security benefits (remember, delaying Social Security is an excellent way to increase your safe level of income), pension (if any), inflation-adjusted lifetime annuities, and TIPS.

Brief tangent: As you can see here, risk tolerance is about more than just choosing an overall stock/bond allocation. It also plays a role in answering other important questions such as how much of the portfolio to annuitize and when to claim Social Security benefits.

After you have a high enough level of safe income that you no longer need to worry, you can allocate the rest of the portfolio however you wish.

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  1. Mike,

    Good advice. Safety-first goals-based retirement strategies seem to really be on the minds of many people these days.

    About risk tolerance for retirees, I’m thinking more and more that it should be redefined in terms of spending flexibility. Risk averse retirees are less willing to see their spending levels drop very much, but risk tolerant retirees want to aim more for upside spending with the understanding that they may have to make major cutbacks at some point.

    Best wishes, Wade

  2. I agree, Wade.

    Risk tolerance tends to be discussed mostly in a “choose your allocation” and “how much volatility can you handle” context. I think it’s broader though. As you said, it’s about flexibility with regard to goals. (For those in retirement, that means spending level. For those prior to retirement, it could mean future spending level or date of retirement.)

  3. Dear Mike,
    This is what I have been thinking about. We will have a pension, ss and savings (in VTINX) for retirement in 1 or 2 years. We will use a maximum withdrawal rate of less than 3%. Thus, our earnings in retirement can range from $40000(minimum) to $55,ooo (getting by) to $78,000 (at full 3%wr). We have always been frugal and I don’t see my wife letting me change now.
    Last year, we spent $47,500 and adding $7200 for med ins, this should give us an estimate where to start: $55,ooo. Thank you.

  4. Hi Bill.

    That sounds very much like what I was proposing. I think that’s a very reasonable approach to take.

  5. Hey what do you think should be the percentage of your money that you put into a higher yield lower liquidity vehicle? Like a Roth?

  6. Hi Sean.

    A Roth IRA isn’t necessarily higher yield or lower liquidity than anything else. A Roth IRA is basically just a type of account (with certain tax advantages), in which you can hold most other kinds of investments — stocks, bonds, CDs, mutual funds, ETFs, etc.

    In general, given the choice between having a particular investment in a taxable account or in a Roth IRA, I’d choose to have it in the Roth IRA to take advantage of the tax-free status that Roths offer.

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