Retirement Income

How to Prepare a Retirement Budget in 5 Simple Steps

two women with laptop at the table-retirement budget

There is a fear of running out of money in retirement among many baby boomers. As boomer women, we live longer than men, but our savings are not always enough to last long in retirement.

The main goal of retirement planning is to see how to cover your retirement expenses while living on a fixed income. Part of creating a solid retirement plan is to understand your retirement income and expenses. That means you need a retirement budget.

The best advice is to start planning when you are still working and can adjust the numbers. Preparing retirement budget will help to see if you have enough money to retire. If you are still working you have time to add to your savings, pay off debt and change your spending habits.

How do you prepare a retirement budget? I will take you through 5 simple steps.

Step 1. Calculate your retirement income

bees flying over lavender-preparing retirement budget

The more sources of retirement income you have the better off you will be in your golden years. The income in retirement will come from different sources. For many retirees, a Social Security paycheck will be the ONLY income. Other retirees will have an additional income coming from 401(k), IRA, Roth IRA, savings, annuities, dividends, and/or rental properties.

Start with Social Security and find out how much you will get paid once you retire at 62, at full retirement age which 66 or 67 for most of us or delay it until you turn 70.

Social Security website will help you to open an account if you do not have one and find out the size of your guaranteed paycheck.

Social Security website

The next source to consider is pension income. Most Americans do not have pensions anymore. But if you are lucky and have a pension add the estimated paycheck to your Social Security.

Then, look at your retirement accounts including 401(k), IRA and Roth IRA and calculate the balance on all of them.

After you calculated your retirement savings balance, find out how much it will grow in the next 5 or 10 years. For example, you have saved $200,000 on your retirement accounts. If this money grows at 6 percent per year, it will be worth $267,645 in 5 years or $358,170 in 10 years. I like to use an online calculator for estimating my investment portfolio growth:

Smart Asset investment calculator

Using a 4 percent safe withdrawal rule will help to see how much income you can generate from retirement accounts. It would generate around $10,405 or $14,326 a year of income.

Finally, calculate the total of your combined retirement income:

SSB + pension + retirement accounts + bank savings balance + rental income + business income = combined retirement income.

Step 2. Estimate your retirement expenses.

man using notepad and laptop-preparing retirement budget

Step 2 will help to find out how much money you need in retirement by accurately projecting your retirement expenses. It is easier to control your spending than retirement income. And we all know that if we spend less than our monthly income, our retirement funds will last longer.

A simple way to estimate your retirement expenses is to know where and how you spend your money today while still working.

Divide your expenses into 3 main categories:

Essential – need to have
Non-essential – want to have
Unexpected and/or one-time expenses

Label your expenses as either essential or non-essential. It will help to see where your money is going.

Essential expenses – need to have:

Your essential expenses are expenses you cannot live without in retirement:

Mortgage or rent
Utilities
Transportation
Food
Medical

When you retire, you will still have to spend money on these expenses each month. But how it will change in the future when you stop working?

Here are the same budget categories but the cost of it might change when you retire.

Housing – Are you planning to downsize, pay off your mortgage, rent, or relocate to a more affordable place? You have to include the property taxes and maintenance costs if you’re an owner.
Utilities – Cost of utilities might go up or down. If you relocate to a warmer state, include the additional cost of air conditioning.
Internet/ cable/ phone – Are you planning to spend a lot of time at home reading and gardening or some of your hobbies include using the internet? You should include the approximate cost of the internet and cable in your retirement budget. Many people cut costs by switching from cable TV to a streaming service.
Transportation – How your transportation needs will change in retirement? How many cars do you have? Are you planning to downsize your vehicles? Will you buy a new car or a boat? Calculate how much you pay each month for gas, car insurance, and parking and decide how it will change when you stop working.
Food – How much you will spend on food depends on your eating habits. Most retirees start eating out less and prefer to have homemade meals. This budget category expense can be significantly reduced.
Medical – It is hard to calculate medical out-of-pocket expenses, along with premiums for Medicare. Yes, Medicare provides health insurance, but it does not pay for all medical bills and it does not pay for long-term care at all. There is no way to know how much it will cost. But according to Fidelity Investments, a healthy couple can expect to spend on average, a total of $275,000 out of pocket on healthcare expenses in retirement. And a long-term care cost is not included in this number.

Non-essential expenses – want to have:

These expenses are your extras. Make sure to leave room for fun when calculating your future cost of living. You worked hard most of your life while saving and planning for retirement. Traveling, camping, attending a concert, or eating dinner with friends will be part of your fun years. You need to plan for that and include the cost of it into your retirement expenses.

Traveling/ vacations
Hobbies
Entertainment
Gift/ charity

Many of my friends who already retire admitted that every month of their retirement look different than the month before. Some months they spend a lot of time at home. Other months, they are on the road visiting friends and family or traveling abroad.

Unexpected and/or one-time expenses:

Urgent medical expenses
Unexpected car or home repairs
Home improvement
Wedding
Grandkid’s college tuition
Funeral

By including these expenses into your retirement budget, you will minimize the chance to be surprised by these events. You wanted to be sure that you have enough money to cover these expenses. One way to deal with unexpected is to have an emergency fund. Instead of panicking at every unexpected bill, you will have a small pot of money at hand and ready for use.

For our retirement expenses I like to use a worksheet from Vanguard:

Vanguard retirement expenses worksheet.

Step 3. Compare your retirement income and expenses.

architecture - retirement income and expenses

After calculating retirement expenses compare it with your retirement income and see how much you have left over.

Retirement income – retirement expenses = cash flow

Once you stop working you can rely only on the income generated from your savings and Social Security. And if you do not have enough retirement savings, you will have to rely only on one source of income – Social Security. Even Social Security is considered a guaranteed income, but it might be not enough to cover all your expenses.

It is important to have enough income to pay for your monthly essentials. Thus, first look at your Social Security benefits and see how much it will cover. Next, calculate how much money you have to withdraw from retirement savings to cover other expenses.

You can boost your retirement income by downsizing your home or delay retirement for a few years. But those may be not the options for everybody. Most baby boomers will need to reduce their expenses and change spending habits so they can live on their available income.

I calculated that Roman and I will need to have $60,000 a year ($5,000 a month) to cover our expenses for the first 5 years of our retirement. We plan to downsize, sell our house and rent an apartment before we decide if we want to buy a condo. We like to travel and have a long bucket list of places we want to visit. If we do not delay our benefits until age 70, our estimated Social Security paycheck will be $42,000 a year ($3,500 a month).

Thus, we will need to withdraw an additional $18,000 a year ($1,500 a month) from our savings. Many advisors recommend withdrawing 4 percent from savings so your retirement funds last longer. We can withdraw up to $20,000 a year from our savings to follow this rule and feel safe.

If I want to bump that number to 5 percent and withdraw $25,000 a year from our savings, we will spend our retirement funds faster. I would rather adjust our lifestyle and reduce our expenses to fit a safe rule of 4 percent withdrawal than to deplete our funds fast. The goal is to adjust our lifestyle to fit our available income.

Even the whole process looks like a lot of work, remember that calculating these numbers now will make life in retirement much easier.

Step 4. Add inflation and taxes to your retirement budget.

Inflation is real and it will erode the value of today’s dollars over time. Many advisors suggest including 2 or 3 percent inflation to retirement budget. But if you are like me and have no intention of moving your retirement portfolio out of the market, you should expect that keeping money in the market will help to fight inflation.

When you start preparing a retirement budget first thing you want to know is how much income you have available to pay the bills each month. But whatever number you calculated in Step 1 may not be yours to keep in full. Your withdrawals from retirement accounts like 401(k) and IRA will be taxed year after year. And depending on your retirement income so might be a portion of your Social Security paycheck.

Hence, instead of being surprised by taxes, budget for them. Look at your current tax brackets and try to figure out yours in retirement based on estimated income. Then add that money to your retirement budget. You will pay lower taxes in retirement because you will have less income. But you still need to have money to pay taxes every year.

Step 5. Keep updating your retirement budget.

a woman on a suitcase-retirement expenses

I know that my retirement budget is not perfect and needs to be updated. But it is a starting point that allows me to learn how much income Roman and I need to replace when we stop working.

Budgeting for retirement is not a do-it-once-and-forget exercise. Retirement budgets are living things that need periodic checkups. Once you retire you need to keep updating your spending, income, and withdrawal numbers, because spending in retirement could go easy out of hands.

Also, you need to keep an eye on your retirement portfolio growth and make sure that all is going according to your plan. Otherwise, you need to adjust and fit your lifestyle to available income.

Final Thoughts

None of us wants to spend our fun years worrying about money. Everyone wants to enjoy retirement. Follow these 5 simple steps and start preparing your retirement budget. It should help you to stay on track financially so you can enjoy your fun years and avoid stress.

Do you have a retirement budget? Have you thought about preparing a retirement budget? Share your ideas with us in the comments below.

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Disclosure: This information is only educational. The intent if this post is to provide a simple guideline for an extremely complicated matter. I am not providing any specific financial advice or recommendations to any of my readers.

6 Steps Guide to Organizing Finances for Retirement

by Maggie Leave a Comment

women planning tasks w/ sticky notes-organize finances for retirement

When I think about retirement I think about financial security in my golden years. It’s not about the size of your nest egg, but about how to manage your finances.

You need to get a clear financial picture before you quit your job. You need to figure out everything about how many accounts you have, how to manage them, in what order to withdraw money, tax liabilities, how your investments will generate income.

Organizing your finances for retirement will help you to feel more comfortable with your retirement decision. Instead of giving up on the retirement bucket list, you want to match your lifestyle to your available resources.

Moreover, organizing your finances for retirement will give a sense of control over your life. It will make the transition to retirement much easier to manage.

In this post, I want to go over 6 steps required if you want to get your finances in order before retirement.

1. List all your retirement accounts.

laptop, notepad and coffee -organize finances

In retirement you’ll be paying yourself from the savings you have accumulated over the years. Thus, the first step to organizing your finances should be listing out all your retirement accounts.

Over the years Roman and I accumulated several 401(k) accounts from different employers. We managed to roll over them to our individual retirement accounts – IRAs and even Roth IRAs.

So far, we have multiple retirement accounts – (1) 401(k), (1) 401(k) Roth, (3) IRAs, (2) Roth IRAs and (1) investment account. I want to simplify our finances before we retire and combine them into one account.

When I roll over these accounts to a consolidated investment account it will be much easier to work with available funds. It will be easier to manage money withdrawals and decide on an investment approach with only one account.

Listing out all your retirement accounts will give you a better idea of the available money you have to manage.

2. Write down your assets and liabilities and calculate your net worth.

white graphing paper with numbers - organize finances for retirement

You next step is to organize your assets and liabilities/debt. This step should help you to get a general overview of your finances and estimate your net worth.

You can do it on a simple piece of paper or create a spreadsheet in Excel, Word, or Google.

How to Make a Spreadsheet in Excel, Word, and Google

Assets

List everything you own. Start with your major assets like home, cars, boat, vacation home, rental properties, collectibles, gold coins, and anything else that has tangible value.

When you list these items try to come up with their real value and not the price you want to sell those things. Your major assets gained a lot of value over the years and can be sold if you’re ready to liquidate them or in a bad financial situation.

In addition to gathering information about the value of your major assets, you need to add information about other savings outside of your retirement accounts. List all your bank checking and savings accounts, investment accounts, stocks or bonds, CDs, and money market accounts.

Liabilities/ debt

List everything you owe. This should include mortgage balances, car loans, student loans, credit card debt, and any other debt or loan you may have.

Your net worth

Calculating your net worth is quite a simple task. Calculate the total of your assets and subtract the total liabilities/debt from that number.

Total Assets – Total Liabilities = Net Worth

You might have a negative net worth, which means you have too much debt. In this case, you need to work your way out of it as soon as possible. It will be a big mistake to start your retirement with too much debt on your hands while living on a fixed income.

3. Social Security as a retirement income

long pier on the lake - retirement security

In 2020, the average Social Security benefit for a person who retires at 66 is $18,036 per year or $1,503 per month. If you’re married the combined income will be higher.

Many Americans will rely on that paycheck as a basis of their retirement income. Social Security is called a guaranteed income. And the best part of it that it will keep coming in as long as we live.

When you start organizing your finances for retirement, it’s important to know how much your Social Security paycheck is. Look at your statement from the Social Security Administration.

Social Security

When you open the link to the website, sign in, or create an account if you don’t have one. Your Social Security statement will show how much you could expect to receive at a different age.

Depending on your birth date and year, you’ll see several numbers of expected income. The lowest income will be If you decide to claim your benefits at age 62, and the highest at age 70.

Whatever age you decide to retire, be careful of claiming your benefit right away and look at the numbers first. I always like the idea to retire early at age 62, but delay claiming the benefits until full retirement age, so I’ll get higher income for life.

4. Calculate your income, expenses, and cash flow.

bulletin board with sticky notes - organize your finances for retirement

It’s important to calculate your retirement income and expenses so you would know how to manage your spending.

Income

List all the retirement income you expect to receive. This includes your Social Security paycheck, pension, estimated income from retirement accounts, investment accounts, rental properties, business (if you own), and a part-time job.

By gathering all information will help you to have a clear picture of what income will come from which account. Also, you should remember about a required minimum distributions (RMDs) which start at age 72 in 2020 (before it was at 70 ½).

Expenses

To find out how much money you’ll spend in retirement answer a few questions:

Where do you want to live in retirement?
How do you want to live in retirement? What is your lifestyle?

If you know where and how you want to live it will be easier to understand your retirement expenses.

All expenses can be divided between essential and non-essential living expenses. I like to call them “need to have” and “want to have” expenses.

Essential or “need to have” expenses:

Mortgage or rent
Utilities
Transportation
Food
Medical and other insurance

Non-essential or “want to have” expenses:

Travel and vacations
Hobbies and activities
Entertainment

You can add to this list donation to charity, gifts, or other contributions you‘re planning to have during your retirement years.

Calculate your cash flow

Calculate the total of your retirement income and subtract your estimated retirement expenses from that number.

Retirement Income – Retirement Expenses = Cash Flow

I like to calculate our cash flow because it helps to get a clear picture of our income and expenses. It’s not about how much money we’ve accumulated over the years, but how we manage our spending.

If we want to have a secure retirement and not to run out of money fast, we need to control our expenses. I want to make sure that our cash flow is positive which means we live within our means and don’t overspend.

If your cash flow is negative it means you live beyond your means and need to cut on spending. Negative cash flow can be altered by increasing your income or decreasing your expenses. I think it’s always easier to adjust your spending habits than your income.

Understanding your cash flow situation is important because it helps you to see what kind of life you can afford.

5. Re-evaluate your retirement investment strategies

person holding glass ball -investment options

While organizing your finances for retirement, it will be a good time to re-evaluate your overall investment strategies. You need to decide what is the best way to invest your money. The invested money should provide income and growth of your portfolio during retirement years.

With age, we tend to get more conservative with our investments. When we are getting closer to retirement, we start thinking about preserving capital rather than making big profits in the stock market.

It’s recommended to have a 60/40 portfolio when you’re close to retirement. But you still need to have money invested in stocks so it will grow over time. Many people make the mistake of getting too conservative by investing too much of their portfolio in bonds. But we still need to have growth in our retirement portfolio so we can beat the inflation.

On the other hand, it will be a mistake to invest all your money in the markets. When you retire and stop receiving a steady paycheck, you need to have enough cash to pay for expenses and emergencies.

I like the idea to have one or two years of money available to provide immediate income. You can use a mix of cash and other safe investments like high quality, short-term bonds or money market accounts for quick access to funds.

6. Review all insurance policies

I try to review our insurance policies every year. But when you’re ready to retire you need to look at them more closely. Depending on your policy the home insurance could cover less or more than you need right now. The same applies to car insurance. It’s a good idea to check that your car policy isn’t covering a child who moved out of the house and not using your vehicle anymore. Make sure that your insurance policies have the cost and coverage to match your current needs.

Health insurance will come at a big cost in retirement. Our health is likely to decline with age and we will need more help from the medical professionals.

health-illness-graphic - long term care insurance

Long-term care insurance is an extremely popular topic that is discussed among financial advisors. You can spend almost $10,000 a month for full-time long-term care assistance or even more if medical care is needed.

On many occasions, Roman and I discussed if we need to buy long-term care insurance. So far, we didn’t come to any conclusions. It’s insurance and it’s expensive. You may pay a premium for years and after all, never use the coverage.

But what if one of us breaks a hip later in life. Who would help with cooking, cleaning, and bathing when the other partner is old as well? And how would you pay for someone’s help? Without long-term care insurance, you will have to spend down your funds before you see whether you qualify for Medicaid.

On the other hand, we need to look at it as we look at any kind of insurance. We have been paying for a homeowner’s insurance for years and never feel sorry that we never used it. The same was with our rental property. We had landlord insurance for a 3-family rental property we owned for years. The policy we paid for was around $1 million in liability coverage. But I feel happy that the property never burned down or being damaged so we would have to use the insurance.

It doesn’t matter if we either will need care, or we will not. What matters the long-term care insurance will allow us to afford quality care when we need it. Also, it helps to reduce the financial and emotional stress that long-term care situation can impose on the family.

Article by AARP: 5 Facts You Should Know About Long-Term Care Insurance

Putting It All Together

I’m sure that we all struggle to keep our finances in order. My biggest problem is that we have too many accounts. Lately, I have noticed that it’s getting harder to manage them. Before we retire, I wanted to make sure that we have a firm grasp of our financial situation.

My goal is to organize and simplify our finances the way we can enjoy our retirement instead of worrying about the financial unknowns. I want to have peace of mind knowing that we can manage our retirement savings wisely.

I believe that organizing your finances for retirement will help to be confident in the comfort of your next phase of life.

Have you thought about organizing your finances for retirement? Share with us your thoughts and ideas in the comments below.

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How to Protect Retirement Savings During Coronavirus

by Maggie Leave a Comment

For the average American who is saving for retirement the latest economic and stock market news associated with coronavirus sounds terrifying. The coronavirus pandemic disrupted our daily lives and affected our finances.

For those who are close to retirement, the financial news is the most frightening. You have been saving for retirement for decades and seeing all your savings going down brings havoc to your retirement plans.

How to protect your retirement savings is the most important question for many baby boomers.

When the stock market is volatile as right now it is hard to say how long this rough patch will last. For those who are 20 or 30 years away from retirement, this market downturn should not cause major concern.

Eventually, the market will bounce back, and you will have time to recover those losses. But if you are near retirement and your retirement savings took a major hit you may want to postpone your retirement plans.

According to the Market Rates survey:

36.4% of Americans within 20 years of retirement expect the corona crisis will delay their retirement.
37% of Americans aged 45 to 64 don’t know what their investments are doing in this environment.
Of those who know where their investments stand, 43.8% of people in the 45 to 64-year-old age group reported losses of at least 10%.

For many baby boomers maybe, it is not the right time to retire now with the stock market being in free fall for many days. But it is a great time to review your plan and try to protect your retirement savings.

Adjust your retirement age and time you want to retire.

With the stock market down, unemployment high and the whole country in lockdown is hard to predict how soon our life will get back to normal. We do not know if the economy will recover fast or the country is heading toward a full-blown recession.

If you are 5 to 7 years away from retirement you still have time to protect your retirement savings by adjusting the time of your retirement. Unfortunately, you cannot change anything if you are already retired and watched your retirement savings shrunk.

However, if you are a few years away from retirement you should try to wait it out until the market is in better shape. This way you will have time to recover your losses and improve your retirement funds.

Do you know if you have enough saved for your retirement?

Look at your current savings and compare them with your financial goals. You maybe still able to retire on time if your savings are in good shape.

But what to do when you are behind on your savings or your savings have been hit hard? In this case, you maybe better off saving for a few more years and adjust the time when you can retire.

Don’t cash out your 401(k) savings.

coronavirus -a man holding US dollar banknotes

When the stock market is volatile, your first reaction is to protect your savings and pull all the money from retirement accounts. We all have that feeling when we watch the market being in free fall and expect the market will only get worse. We feel that it is the right thing to do by cashing out now before we lose any more money.

The truth is by cashing out now you can make a costly mistake. Because you cannot lose money until you sell your investments. When you sell your investment and the market is down, you will be locking in your losses.

The best thing you can do right now is to ride out the storm and wait for the stock market to calm down. As soon as the stock market starts to recover, your investments will rise in value as well. You will be happy to know that you are not missing out on all potential gains when the stock market starts to recover.

In addition to that, if you pull out money from your 401(k) and IRA accounts before age 59 ½, you will have to pay a 10 percent penalty fee and income taxes on the amount you withdraw.

Review your portfolio and adjust for risk tolerance.

a man and a woman at the table looking at laptop - adjusr retirement portfolio

Right now, it is a good time to look at your portfolio and see if you need to adjust it for your age and risk tolerance. When you get older you should modify your portfolio. More money should be invested in conservative investments like bonds, treasury notes and cash investments with less money invested in stocks.

In order to protect your retirement savings, you need to diversify your investments. Usually, investments are diversified based on asset allocation, your age and risk tolerance.

I am sure that most people set up their portfolios a long time ago and enjoyed the healthy market long run of the last decade. But recently things have changed so fast that most of us did not have time to adjust our portfolios to the new stock market environment.

However, it is not late to make some adjustments and protect your savings from future market dips. Make sure that your investments are diversified properly going forward.

If you are in your 50s think about your risk tolerance. Then decide how to allocate any new money going into your investments.

If you are in your 60s you should allocate more of your money in safe investments going forward. This strategy will allow you to keep your investments as safe as possible if the stock market will continue to fall in the future.

For several weeks I have not had the stomach to look at our portfolio and see how much money we have lost. But from the last recession, I learned the importance of having cash reserves at all times. Since then we keep 5 percent of our retirement savings in cash. It helps me to sleep through the night knowing that if things go bad and we lose our jobs we have quick access to cash. We call it our spending bucket. It helps to know that we have a temporary source of cash to pay the bills.

I would recommend keeping part of your money stashed in cash if you are close to retirement. Theoretically, you should have enough cash to cover a year of bills or even more. It should help to survive through the market downturn when you are not working.

Your spending bucket should be invested in safe assets like money market funds or short-term bonds that are not subject to big price declines. Savings accounts and money market funds are considered as cash investments. These are called cash investments because they are as good as cash. You can withdraw them at any time without penalty fee.

Don’t stop your 401(k) or IRA contributions

laptop, cup of coffee, Iphone, flower pot on the table

I think that many people drive themselves crazy checking 401(k) or IRA balance every day. It is hard not to do that knowing that the stock market is in bad shape due to coronavirus pandemic. In the current financial situation, it is tempting to cut back on your contributions because you want to protect your retirement savings. It is really easy to feel you are throwing good money after bad. None of these are good feelings.

But if you are able to keep your job it is smart to continue your contributions to 401(k) or IRA. Stay the course and when the market recovers, you will be glad that you did not miss the gain from that growth.

Some financial gurus even recommend boosting your retirement savings and contributions. Since the stock market is down you have an opportunity to buy quality investments at low prices.

On another hand, social distancing and lockdown measures make it hard for us to spend money on restaurants, concerts, sports events, or travels. When you are mostly confined to your home take that extra cash and add to your retirement savings.

If you are in your 50’s and planning to retire at full retirement age, you have 15 years or longer to contribute to your retirement funds. Time and compounding could still work for you over this time period. Therefore, keep saving and contributing money to your 401(k), IRA, and Roth IRA.

But if you are in your 60’s you have less time to recover your losses unless you want to postpone the time when you retire. Check out how much is your social security and decide if you can live off that paycheck before starts withdrawing money from retirement funds.

Article by Forbes: 6 Steps to Reduce Financial Fragility and Protect Retirement After Covid-19

Final Thoughts

Sometimes I feel that the entire world is in panic mode due to coronavirus spread. This health crisis has changed the way we live, work, and socialize. We put our lives on hold while watching the stock market crashed and our retirement savings shrunk.

However, I believe you can protect your retirement savings by adjusting your risk tolerance, asset allocation, and time of retirement. Continue contributing to your retirement funds as much as possible. By following these guidelines, you will be in a much better position to meet your retirement goals despite market conditions.

How do you protect your retirement savings during the coronavirus crisis? Share your thoughts with us in the comments below.

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The 3 Buckets Strategy for Retirement Income

by Maggie 8 Comments

old car with two man - bucket strategy for retirement income

Do you know how much is your retirement income and where it comes from? Have you figured out if you have enough savings to cover your expenses in retirement?

When you’re in your 30’s or 40’s, the idea of retirement is far away. But when you’re in your 50’s and 60’s, the retirement is around the corner and not a theory anymore. You need to understand how much you will receive from Social Security or pension (if you’re a lucky one). You need to calculate the balances on your retirement accounts like 401(k), IRAs, Roth IRAs. Also, you need to figure out how much you will be able to withdraw each month.

When you retire and stop receiving a steady paycheck, you need to learn how to generate retirement income to pay for your expenses. Some of your income will come from Social Security, but the rest should come from your nest egg.

Recently I read a lot about the bucket strategy for retirement income. This strategy becomes popular and got discussed among many financial experts. With this strategy, you will divide your saved money between several buckets – investment portfolios. Each bucket or portfolio will be divided based on the time when you need money, asset allocation, and other goals.

The benefits of a bucket strategy:

The major benefit of the bucket strategy is simplicity.

I think dividing your savings into smaller portfolios or buckets with specific goals will help to manage them better than one big account. With the traditional 4% rule of thumb approach, you will generate retirement income by systematically withdrawing money from one big account.

You might lose money if you’re forced to sell your investments to get cash in the stock market downturn. But using the bucket strategy approach, you will keep some money in cash for the current expenses and leave the rest of them to grow for the future.

Here is the 3 buckets strategy to generate retirement income:

This bucket strategy plan is based on 3 different phases of retirement:

Bucket 1 – 1 to 5 years of retirement

The first 5 years of your retirement will be the most active. It’s often called “go-go” years.

passport, map on the table - travel in retirement

Most of the time you’ll stay active, and you might be even still working part-time. People entering retirement today are more active and adventurous. In this phase, many retirees splurge themselves on exploring the world, buying a vacation home, a new car or even a boat.

Depending on where you currently live and the cost of living in your area, you might want to relocate to a warmer and sunnier place. The relocation usually comes with an additional coast of buying or renting, moving the furniture and belongings and renovating or upgrading the new place. The first 5 years of your retirement might be expensive, and you will need to have enough income to cover all additional expenses.

When you retire, you’ll likely spend more than you ever have before. The good advice is to hold back on big spending and stick to your budget. You don’t want quickly to blow through your savings like there is no tomorrow. The bucket strategy approach will help you to stick to your budget and provide income for those fun years.

For example, you have accumulated $700,000 in savings and planning to retire in a couple of years. You figured out that you want to spend $5,000 a month ($60,000 a year) when you retire. Let’s assume that your combined guaranteed income from Social Security and/or pension is $3,330 a month ($40,000 a year).

Based on the calculations below you have an income gap of $1,670 a month ($20,000 a year) to cover your cost of living:

$5,000 – $3,330 = $1,670

Use the bucket strategy and put aside $100,000 to cover expenses and maintain your lifestyle for the first 5 years of retirement.

$20,000 x 5 years = $100,000

Bucket 1 is created to provide immediate income and cash for emergencies. You’ll want to fill this bucket with secure income sources like CDs (certificate of deposits), bonds, annuities, money market account, or just bank savings account. Keeping your savings away from higher-risk assets like stocks can help to insulate those savings from market downturns.

Advantages of Money Market Funds

7 Best Money Market Accounts from bankrate

Bucket 2 – 5 to 10 years of retirement

This bucket is for the middle retirement phase – between ages 70 and 80.

At this phase, you might slow down on your activities and will start spending less. Of course, you’ll still want purpose and fulfillment. But you might want to travel less or go on the less expensive trips to visit your friends and family.

You might find yourself more engaged in free activities like volunteering, gardening, taking classes at a local community center or spending time with grandkids. The most retirees will continue enjoying many different activities depending on their physical and mental state of health. And you will still need to have enough income to pay for your lifestyle and the cost of living.

The goal for this bucket is to produce income and preserve the capital. The bucket 2 is created to be tapped for income when bucket 1 runs out of money.

For example, you have accumulated $700,000 in savings and then allocated $100,000 for your first 5 years of retirement.

Then, divide the remaining $600,000 equally or in any numbers between buckets 2 and 3. I would put $350,000 in bucket 2 and $250,000 in bucket 3.

According to the theory behind the bucket approach, you’ll want to fill bucket 2 with income-producing investments like stocks with dividends, mutual funds, REITs, bonds, annuities.

The 10 Best Dividend Funds for Any Investor

Best High Yield Bond Funds

Bucket 3 – 10 to remaining years of retirement

The bucket 3 is for the late retirement years – 80 and older.

In your late years of retirement, you will spend less money on activities and travels, but more on healthcare. Unfortunately, medical spending tends to be higher in the last years of your life. Many retirees must move to an assisted living facility or a nursing home. Some can stay home and hire a home health aide. If you have long-term care insurance, it might help to pay a portion of nursing home or home health aide bills.

The goal for bucket 3 is long-term growth. Since you don’t need this money for 20 or more years, you could be more aggressive with your investment.

The money you put in this bucket should be invested in stocks and mutual funds. Although investing in assets like stocks is considered a risky investment, it’s still a good way to grow the money you don’t need for long time.

There are some disadvantages of a bucket strategy:

When you’re older, it will be difficult to maintain many accounts with different asset allocation
It might be hard to keep the right amount of money in each bucket
You need to self-manage your portfolios. If you’re going to use the bucket strategy you cannot adopt a set-it-and-forget-it attitude

The biggest concern is that you’ll spend your safest assets first. But when you’re older you end up holding a big chunk of your savings in high-risk investments.

The Takeaway

Many baby boomers approach their retirement years. If you one of them, you might start thinking about how to manage your savings once you retire.

The expenses at each phase of retirement will depend on where you want to live, how you choose to spend your time, and how healthy you are.

You need to generate enough retirement income to fund your lifestyle, keep pace with inflation and protect your investments from market downturns. Your savings must cover your expenses for three decades and more.

The bucket system is designed to give you peace of mind. When you have money divided between “now, soon and later” investment portfolios, you don’t sell your shares when the market is in decline.

The best part of the bucket strategy is it helps to create a consistent income stream to last through your retirement years. It gives you more choice and flexibility where to draw your income from.

Share your thoughts about bucket strategy for retirement income.

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Disclosure: This information is only educational. I am not providing any specific financial advice or recommendations to any of my readers.

Passive Income & How to Create One for Retirement

by Maggie 4 Comments

woman in a swimming pool - passive income in retirement

I think passive income is a great source of additional income in retirement. When you’re working and making money, the idea of passive income might sound like alien to you. Many people don’t have time to put an extra work building passive income after long hours spent at work.

But if you’re in your 50’s or 60’s the benefits of passive income will become clearer to you. You’re getting closer to retirement and starting to understand that at some point you will quit your job and start living on the fixed income. It’s a good time to start thinking about how to diversify your income so that you’re not too reliant on one source.

What is passive income?

For me, the best description of the passive income would be the income you earn with little effort or maintenance. In the beginning, you will need to put extra work to set yourself up for the income. But after a certain period and most of the work done, you should expect income continually comes without much effort from you.

You should still expect a little maintenance from time to time after you set it up, but overall the passive income stream should continue on its own.

The benefits of earning passive income in retirement:

You can retire, enjoy your life more and feel comfortable knowing that you’re still making money.
You can continue to make money with little work or maintenance.
You can increase and diversify your retirement income. The fear of running out of money in retirement is big among retirees. But you can ease off that fear by knowing that you have an additional stream of income.
You can travel anywhere you want and enjoy life knowing that you’re still earning an income to support your travel or pay your bills and other necessities.

Here are the 3 best ideas for creating passive income in retirement:

1. Create passive income with real estate

Investing in real estate is the most well-known and effective way to build wealth and create passive income in retirement. It can be done in several ways:

Buy and invest in rental property

many white washed houses - passive income

Buying a rental property is one of the traditional ways to create wealth and passive income in retirement. But you have to have enough savings to buy a property and then find tenants and collect rent.

From my personal experience being a landlord is not an easy task. It comes with the burst pipes, clogged toilets, and dealing with messy tenants. Also, it comes with some hefty investment of money to get started and locking that money up for a long time.

To earn passive income from a rental property you need to put a lot of work upfront by buying and maintaining it for years. Then your property needs to generate enough cash flow so you can use it as passive income. Hiring a property management company is not a bad idea, but you’ll need to pay 10 to 20 percent of your profit to manage your rentals.

Please remember that this kind of passive income comes with investing a lot of your time and finances before you get the benefits of earning passive income.

Home-sharing

I am sure you’ve heard or read about ‘home sharing’. The idea of home-sharing is becoming more and more popular. There are a lot of older people or empty nesters who own a home and don’t want to move.

They have an empty room or vacant space that they can rent out to a long-term roommate or housemate. It could become a good way to make some extra money every month and have a company in your home.

Home sharing

Rent a room

Vacation rentals gained huge popularity lately. You can list a room or even your home on a vacation rental website such as:

Airbnb.com

Home Away.com

VRBO – Vacation Rentals by Owner

Renting your home or a room through popular websites doesn’t require a hefty investment on your part to get started as buying a rental property.

However, this endeavor will still need some of your time and money to maintain and continue in order to earn an income. You will have to keep the room nice and tidy, do a load of bedding sheets and towels after guests depart. But you can generate a great source of additional income in retirement and increase your social network, so you won’t feel bored or lonely.

You can start by listing a room or your entire home, along with details like prices, dates, and description of your place, so travelers can book your space instead of a hotel.

One of my friends earns modest passive income by renting a room as a vacation rental in her beautiful condo. She has to put up with some extra work to welcome her guests, but she enjoys social interaction with different people while earning some income to pay off her mortgage.

2. Invest money in passive income sources

Invest in REITs – real estate investment trusts

city tall buildings - investing in REITs

An investment in REITs offers all benefits of real estate investing without the hassle of being a landlord, dealing with tenants, or buying and maintaining individual properties.

REITs own and manage income-producing commercial and residential properties domestic or international. There are many different types of REITs. Most important to understand that REITs have enough equity in its many properties so they can afford to pass part of its income on to investors or shareholders.

When the properties appreciate, the REIT pays out the profits to their shareholders in a form of dividends. Depending on the economic situation, REITs can pay higher dividends than stocks or bonds.

When you buy shares in REIT or REIT fund, you profit from the dividends that real estate companies pay to investors. You have a choice of buying shares in individual REITs or buying a mutual fund.

For many years I have been investing in individual REITs. But recently I sold all shares and invested all the money into the Vanguard REIT Index Fund (VGSIX).

Investing in REITs is one of my favorite ways to generate passive income. I would prefer it over owning a rental property and being a landlord. I like it because I don’t’ want to have the hassle of being a hands-on landlord when I retire. Investing in real estate via REIT will allow me to enjoy my life with leisure activities and travels while still earning passive income.

The 10 Best REITs to Buy for 2020

Invest in dividend stocks

Investing in dividend stocks is my favorite type of investment. You’ll have to do your research to find the best dividend stocks. That way, you can make sure that your dividend payouts will last and generate decent passive income in retirement.

When I was building my portfolio of individual stocks, I focused on buying dividend stocks. I did my research to make sure that the company has a history of strong growth and financials to support that growth. Many years later many of these stocks have shown decent dividend growth.

If you don’t want to invest in individual dividend stocks you can invest in dividend mutual funds. The benefit of it that the fund is managed by the full-time services of a professional team who looks after your shares and try to increase a return on your investment.

The 10 Best Dividend Funds for Any Investor

I would consider investing in dividend stocks or funds is one of the most passive ways of making money. Besides doing research, finding the best dividend stocks and buying them, you don’t need to do any other business activities.

Best Dividend Stocks

High Yield savings account or Certificate of Deposits

High Yield savings accounts are bank accounts that earn you a higher interest rate than a traditional savings account and checking accounts. A higher interest rate means a higher return on your money.

However, we live in a low-interest-rate environment and honestly, I don’t think you’ll earn significant passive income from your savings. But If you like to keep a large amount of cash in the bank it’s a better choice to keep it in the high yield savings account.

The average savings account ARY (annual percentage yield) is 0.09 percent, but some high-yield savings accounts offer ARY closer to 2 percent. It will make a big difference with time.

For example, if you keep $10,000 for 5 years in a traditional savings account with 0.09 percent ARY, it would worth only $10,045. However, if you decide to open high-yield savings account with 2 percent ARY, the same money will worth $11,041 after 5 years.

Best High Yield Savings Accounts

You can get some additional income through a Certificate of Deposits – CDs if you don’t mind locking your money up. You can get rates slightly higher than with high yields savings account.

Best CD rates

Bonds

Investing in bonds can be a great way to earn a passive income in retirement. It’s very popular between retirees or people closer to retirement because bonds allow you to preserve your capital and avoid the volatility of stocks.

However, bonds may not offer the high returns of stock investment. But bonds are more stable than stocks and are a great way to create a steady stream of income in a form of regularly paid interest.

When you invest in bonds, you are lending money to a company, the US Treasury, or a local government. As with any other loan, the issuer promises to pay the money back plus interest. This simple fact that you’re going to get your money back at a specific time in the future makes holding bonds a great investment for retirement.

The 7 Best Bond Funds for Retirement

Annuities

Annuities are not a popular way of making money in the investment community, because it’s very expensive, complicated and sold by the insurance companies. But in some way, you can consider it as a passive income.

When you buy a lifetime or immediate annuity, you’re exchanging a portion of your retirement savings for a guaranteed monthly income. So, in exchange for the cash, you’ll buy an income stream that will last as long as you live. For me, it’s a great way to bring a passive income in retirement.

Our plan is to invest $100,000 in the immediate annuity when Roman and I retire. This way we will get a guaranteed monthly income to cover our basic utilities and other necessities.

I know that for most people annuities are a last resort investment. They are too expensive and come with high fees and withdrawal penalties. But on the other hand, annuities can give you peace of mind and reduce the fear of running out of money in retirement.

3. Create a side business

a laptop on the table - writing an e-book-passive income

Very often passive income comes with a large upfront investment such as buying rental properties or investing in dividend stocks. But some strategies can bring an extra cash without investing a big load of money:

Blogging

If you like to write and share your thoughts with other people you can start a blog or website to earn some passive income without investing a lot of money upfront.

However, you’ll need to put up with a lot of work of creating an appealing website, write and publish content for your blog, add images, advertise on all social media platforms and find ways to gain readers and followers. This will take a lot of work before you can make any kind of money from your website.

With time and a lot of effort, you might create a stream of income coming from your side if you have enough readers and followers. You can sell your own products, e-books or courses to your readers and followers. Or you can get engaged in affiliate marketing and sell products or courses created by other people or companies.

Write an e-book

Writing an e-book might not be your idea of a passive income for retirement. But we live in a new age with the advantage of self-publishing. For example, Amazon’s Kindle Direct Publishing allows you to write and sell your content easily.

Are you ready to spend a considerable amount of time writing, publishing and selling a book online? If the answer is yes and it all goes well, you could be earning a passive income in the form of royalties for many years. Also, you can sell PDFs version of your e-book through your personal website and this will help you to earn even more money per book than Amazon does.

Here are a few ideas for writing an e-book: travel guides, cooking, finance, investing in stocks, investing in real estate, landlording, gardening, painting, health and wellness, fitness, photography, etc.

Putting it all together

In retirement, you want to do fun things without the burden of working for a boss. So, if you can find a way to generate an additional stream of passive income it will be a smart use of your time. The great benefit of passive income is that it will let you enjoy life more.

Do you know what is the source of your income in retirement? Have you thought about creating passive income for your retirement?

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Disclosure: This information is only educational. I am not providing any specific advice or recommendations to any of my readers.