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Protecting Your Portfolio from Old Age

A reader writes in, asking:

“I recently read that the average person’s ability to make good financial decisions starts to decline as early as their 50s. Aside from hiring an advisor (too expensive) what can be done?”

There are several possible steps to consider, each with the goal of either simplifying your portfolio or reducing your reliance on your portfolio.

First, it can be helpful to reduce the number of investment accounts you have — and keep them all with one firm. Rolling all of your previous employer-sponsored accounts into IRAs, and combining all your IRAs at one place makes things much simpler. It’s easier to stay on top of everything if you can see it all at once on a single statement or website.

Second: Create a low-maintenance portfolio. If you’re worried about a decline in your ability to make good decisions, you don’t want to be bothering with individual stocks or actively managed mutual funds, trying to follow them closely enough to know just when to sell (a difficult task for even the sharpest of investors). A portfolio of passive, broadly-diversified mutual funds requires less work. And the fewer holdings you have, the easier it is to rebalance your portfolio as necessary. For many investors it will even make sense to simplify all the way down to a single all-in-one fund that requires no ongoing maintenance.

Third: Delay Social Security. While waiting to take Social Security often makes sense purely based on the numbers (especially for the higher earner in a married couple), it also has a benefit from a simplification standpoint in that it provides you with a safe source of income that doesn’t require you to make any ongoing decisions.

Fourth: Buy a single premium immediate lifetime annuity. Such an annuity is basically a pension from an insurance company. Buying such an annuity is typically a worse deal than delaying Social Security, but doing so can make sense if you want to further increase the amount of non-portfolio income you receive each month (i.e., income that, like Social Security, does not require any ongoing decisions).

And finally, I do think that hiring somebody to manage your portfolio is one of the better ways to protect yourself against declining financial acumen. At the risk of sounding like a broken record (having discussed this just last week), there are now several firms that offer portfolio management for a fairly low cost — either a small percentage of the portfolio (less than half of one percent per year) or a flat fee.

Of course, none of the above strategies are one-size-fits-all. Some might make sense for you while others do not.

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Investing Blog Roundup: Vanguard Financial Plan

As we briefly discussed on Monday, one of the least expensive ways to get a basic financial plan is through Vanguard. Harry Sit of The Finance Buff recently decided to go through the process himself, and he’s reporting on the experience for anybody interested in following along.

Investing Articles

Retirement Planning Articles

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How Much Should You Pay a Financial Advisor?

This tax season, relative to preparing my return by hand, I would say that TurboTax saved me at least $500 worth of time and stress. And I imagine it will save me a comparable amount of time and stress next year. So, come January 2015, if Amazon is selling TurboTax for $400, would it make sense for me to buy it?

Of course not. And the reason is obvious: I can buy it elsewhere at a much lower price.

When promoting their services, many financial advisors like to state that their fee is a bargain because they can improve most investors’ portfolio performance by an amount equal to or greater than their fee. For example, an advisor charging 1% per year might argue that the fee is worth paying because, without an advisor, most investors will lose at least 1% of performance per year due to picking poor funds, misguided attempts at market timing, and other mistakes that the advisor will help them to avoid.

The problem with this analysis is that it fails to ask whether the same services can be purchased elsewhere at a lower price.

Paying for Portfolio Management

The price of portfolio management (i.e., the actual running of the portfolio — purchasing funds, rebalancing, etc.) is quickly being driven downward due to competition.

At the most basic end, a Vanguard Target Retirement or LifeStrategy fund is a version of portfolio management — maintaining a diversified selection of index funds for a cost of roughly 0.10% per year (relative to the cost of a DIY index fund portfolio).

But, for various reasons, funds of funds are a poor fit for some investors (e.g., people with lots of assets in taxable accounts or people who want an allocation not available via a fund of funds). Fortunately, the selection of low-cost portfolio management providers is growing. For example:

In addition, as recently reported on the Bogleheads Blog, for a cost of 0.30% per year, Vanguard’s new Personal Advisor Services gives you portfolio management, plus a basic annual financial plan from a CFP, plus a designated CFP to contact when you have questions.

Paying for Advice

As far as paying for actual advice, if your needs are basic, you can again get what you need for a very modest cost. For example, Vanguard offers a basic financial plan for $250 for anybody with $50,000 or more invested with Vanguard and completely free of charge for anybody with $500,000 or more invested with them. Vanguard describes the service as providing “answers to important questions, such as:

  • When can I afford to retire?
  • Will I have enough saved by retirement?
  • How much can I spend in retirement?
  • Which investments are best for me?”

Alternatively, there are numerous independent financial planners who can skillfully provide such services for a modest one-time fee. (The Garrett Planning Network would be a good place to look, for instance.)

In short, basic portfolio management and basic portfolio-related advice are both available at a very low cost these days. Paying anything more only makes sense when you need (and are going to receive) more specialized or more thorough services (e.g., a retirement plan that incorporates not only investment decisions, but also Social Security decisions, tax planning decisions, and health insurance decisions).

Investing Blog Roundup: Risking Your Safe Retirement Income?

There are a number of different strategies for providing retirement income. You can purchase an insurance policy to guarantee you the necessary amount of lifetime income. You can use a ladder of bonds (and/or CDs) to provide safe income for a certain number of years. You can use a periodic withdrawal strategy from a mixed portfolio of stocks and bonds. Or you can use some combination of the above.

This week, Dirk Cotton, author of the blog The Retirement Cafe, explains why many people may find betting their safe retirement income in the hope of achieving a higher standard of living later in retirement to be an undesirable tradeoff:

Investing Articles

Other Money-Related Articles

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Will RMDs Force Me to Run Out of Money?

A reader writes in, asking:

“I have a basic question about required minimum distributions. If RMDs are calculated so that you have to withdraw the account over your life expectancy, wouldn’t that force half of everybody (the people who live past their life expectancy) to run out of money before they die?”

No. All you have to do to satisfy the RMD rules is take the necessary amount out of the account (and, therefore, pay taxes on it in most cases). You are not required to spend the money.

Interestingly, the RMD rules won’t even force most people to deplete their IRAs during their lifetimes, because, in most cases, the RMD rules do not actually require you to distribute the account over your life expectancy, but rather over a longer period.

You see, there are three tables used to calculate RMDs:

If you take a look at the Uniform Lifetime table and compare it to any actuarial life expectancy table, you’ll see that it is not actually showing the life expectancy of a single person. For example, the Uniform Lifetime table shows a distribution period of 18.7 years for an 80-year old. In contrast, the Social Security actuarial table shows that an 80-year-old has a life expectancy of just 8.10 years (if male) or 9.65 years (if female). As it turns out, the Uniform Lifetime table is actually meant to indicate the second-to-die life expectancy for a person of the age in question and a hypothetical beneficiary who is 10 years younger than the IRA owner.

The Joint and Last Survivor table calculates RMDs over the second-to-die life expectancy of the IRA owner and the more-than-10-years-younger spousal beneficiary (i.e., an even longer period than is shown in the Uniform Lifetime table).

In other words, RMDs for original IRA owners are calculated over a period longer than the life expectancy of the IRA owner.

The Single Life table — the one used by beneficiaries of an IRA — is the only one that represents the life expectancy for a single person, hence the name “Single Life” table.

Investing Blog Roundup: Lifecycle Finance

Most investors I know think about retirement savings from the perspective of fixed annual percentages. That is, they seek to answer:

  • What percentage of my income should I save every year during my working years, and
  • What percentage of my portfolio can I spend every year during my retirement years?

As retirement researcher Wade Pfau explains in two articles this week, many economists favor the “lifecycle finance” model in which the only thing that is fixed is how much you spend per year (in dollars). And your savings rate (and later, withdrawal rate) are what fluctuate over time.

Investing Articles

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