Income Strategies - Social Security, Bond Ladder, Annuities and Systematic Withdrawal

The topic of this article is the main objective of the Income Discovery software application: finding an income strategy for the client that will deliver the desired retirement income with the least amount of risk.

Retirees need to make many decisions while building their income plan, including selection of the method under which to claim Social Security (for e.g. based on their own earnings or their spousal earning record), age at which to claim Social Security, whether to obtain certain cash flows from a ladder of individual bonds, amount & type of annuities to purchase, and model allocation for the investment portfolio. The combination of these decisions defines an income strategy.

Income Discovery can help you find an appropriate custom strategy for each client's unique situation. It allows you to compare the effectiveness of various strategies in achieving the client's objective. The comparison is based on a new analysis framework that uses comprehensive metrics for evaluation. The risk and reward metrics that make up the framework are described in another article, which can be viewed here.  Additionally, the risk and reward elements shown are based on insights of presenting them as story of individuals rather than statistics – these insights are gained from decades of behavioral finance research (read more). 

Social Security Claim Strategy
Decisions regarding the method and timing of the Social Security benefits claim are a cornerstone of the income plan. Delaying the benefits until 70 years of age can significantly reduce the risk and also provide a much higher lifelong inflation adjusting source of cash flow. It can provide peace-of-mind to retirees knowing that if they were ever unfortunate enough to face catastrophic market conditions that deplete their portfolio, they will still have a higher floor of income that lasts for life. To ease the task of rapidly analyzing multiple strategies with different claim ages, the software allows you to define a new claim age while evaluating a strategy and it calculates the benefit amount payable at that new claim age. Click here for further details.

Bond Ladder Strategy
Despite the advantages of deferring a Social Security claim to 70 years of age, many retirees still claim it at an early age. If the primary reason for doing such is the peace-of-mind of having a stable cash flow source with no investment risk tied to it, you can employ a bond ladder to give the client the same worry-free source of cash flow. By laddering US Government treasuries, especially inflation adjusted ones called TIPS, you can create a cash flow source that has similar safety as Social Security. The software can build a custom ladder that will provide for any schedule of cash flow needs. It also allows you to demonstrate the benefit of each decision in isolation and in combination, for e.g. the dual decision to claim Social Security late and using a bond ladder to provide the same level of cash flow as Social Security when it starts in future. Click here to read more about using a bond ladder.

Income Annuities
Income Annuities, whether immediate or deferred, are a perfect instrument for generating retirement income. Not only are they a stable source of cash flow, but also an endless one, so long as the retiree lives.  Often referred to as longevity insurance, the opposite of life insurance, income annuities mitigate the risk of living too long. One school of thought recommends locking essential expenses from guaranteed lifelong sources, such as annuities and Social Security. A few advisors practice the strategy of gradual purchases of immediate annuities over a 10-15 year period. Other advisors prefer to lock the risk of living too long by buying deferred income annuities that will start making payments after 80 or 85 years of age. Many factors will determine which strategy is right for the client, including the client's risk profile, assets, health, the advisor's beliefs, etc. The Income Discovery tool allows you to model various types of strategies to find the optimum one for the client.

Variable Annuities
Income annuities are simple and effective products for establishing stable retirement income. However, many retirees are not comfortable with the loss of access to the assets that are used to purchase the annuity and the lost opportunity to realize a good investment return on those assets. For such retirees, a Variable Annuity with guaranteed benefits provides an attractive alternative. The retirees can then enjoy the growth on those assets and by paying a periodic fee they lock in a guaranteed lifetime payment.

Systematic Withdrawal

Systematic Withdrawal Portfolio (SWP) is a conventional investment portfolio invested in stock and bond funds from which periodic withdrawals are made to generate the retirement income. The withdrawals may be more than the interest, dividend and other distributions from the portfolio, and so they may require liquidation of the principal. This is one of the most common strategies used to generate retirement income. An SWP accommodates flexibility to structure any type of withdrawal pattern, while allowing the retiree to maintain control of the assets and their investment direction, and also provides the opportunity to leave a legacy.

Each strategy and product has its pros and cons, and for most retirees a mix of two or more of these strategies will generate an income plan with risk and reward balanced to their profile. The Income Discovery tool allows you to find an optimum income strategy for each client by mixing the aforementioned strategies and products.

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