AS I PLAN MY retirement, I have the advantage of a strong background in finance. I worked for 35 years in the investment field, primarily managing mutual funds. Early on, I obtained the Chartered Financial Analyst designation, which helped immensely.
Six years ago, when I was age 55, I embarked on a journey to comprehend the myriad rules and strategies surrounding retirement. I studied to become an RICP—a Retirement Income Certified Professional. While the CFA was useful for investment management, the RICP helped me understand how investments fit with insurance products.
From the RICP program, I learned about the 4% rule and planning for a 30-year retirement. But the 4% rule only concerns financial assets. It doesn’t address other income sources, notably Social Security and annuities. I also learned about the “retirement smile,” a term coined by David Blanchett, who analyzed retirees’ spending through retirement. His finding: Retirees’ spending declines steadily in retirement until the later years, when long-term care (LTC) expenses tend to rise.
Another major issue: How will your retirement income be taxed? Retirement account withdrawals are taxed at ordinary income tax rates. Regular taxable accounts currently benefit from a favorable capital gains tax rate. Roth, health savings accounts and cash-value life insurance all offer tax-free withdrawals—if done correctly.
Since the traditional IRA continues to lose its tax advantages relative to other accounts—the stretch IRA has been slashed to 10 years and account holders are forced to take required minimum distributions starting at age 72—I’ve been looking to shrink my traditional IRA.
To that end, I used my IRA to purchase three different deferred income annuities, formally known as QLACs, or qualified longevity annuity contracts. Those will pay me income starting at ages 76, 80 and 85. I also purchased a “period certain” annuity, which will pay me income from age 62 to 69. That will give me extra income until I start Social Security at age 70. In addition, I’ve been converting part of my IRA to a Roth IRA each year, paying taxes along the way.
These various steps will increase my guaranteed income, allow me to delay Social Security and create a tax-free pool of assets. Did I mention that I obtained an insurance license, so I earned commissions on the annuities that I purchased for myself? Still, even if I hadn’t collected those commissions, I would have bought the various annuities.
At age 55, I also purchased a whole-life insurance policy. As an investment manager, I had always bought term insurance, because I knew I didn’t understand whole-life policies. The two major drawbacks to whole-life insurance are the large commissions paid to insurance agents and the large premiums relative to the death benefit. I wrote the policy on myself, so I earned the commission.
Meanwhile, I wasn’t buying the whole-life policy for the death benefit per se, but rather to accumulate tax-free assets, while also investing in a fixed-income investment that wouldn’t decline in value if interest rates rose. This will be my safe haven fixed-income bucket—and it’s potentially tax-free, to boot.
Owning the whole-life policy freed me up to buy the income annuities. How so? When I die, the annuities cease paying income, but the tax-free death benefit from my whole-life policy will be there for my kids instead. I had hoped to be able to get an “LTC rider” on the life insurance policy, but the insurance company turned me down. That lead me to another insurance product.
I attended a presentation explaining hybrid LTC insurance. I had studied the product while obtaining the RICP, but I wasn’t especially excited about it. But as I researched the product further, it seemed like it solved a host of problems. Since I was declined for the LTC rider on my life insurance, maybe I could qualify for this. I did.
The only thing I knew about traditional standalone LTC insurance was that premiums were never guaranteed and, indeed, the policies have seen dramatic premium increases. By contrast, hybrid LTC policies can’t increase premiums. Owning a policy that would offset costs at the far end of the “retirement smile” meant I didn’t have to worry about rising expenses, should I need long-term care.
On top of that, I now count my hybrid LTC policy as an asset, since I can get a full refund at any time and, if I never need LTC, the death benefit is double what I paid for the policy. One other step I’ve taken: I continue to fund an HSA, or health savings account, since I have a qualifying high-deductible health plan.
I’ve found it helpful to use a spreadsheet to project my retirement income. Each year, different streams of income become available. At age 60, my pension began, which covers my mortgage and my health insurance premiums. At age 62, my “period certain” annuity begins, and that will supplement my pension until age 70. This guaranteed income reduces the need for income from my investment portfolio.
At age 70, my period certain annuity stops paying and I plan to start Social Security. Also starting at age 70, I might withdraw from my Roth account over the next five years if I need additional income. At age 75, I plan to withdraw tax-free income from my cash-value life insurance—but again, only if it’s needed. The withdrawals will be tax-free provided I don’t take out more than the total premiums I’ve paid.
As I hit ages 76, 80 and 85, I’ll have additional lifetime income, as the three QLACs start paying. By age 85, I should have sufficient income from the QLACs, Social Security and my pension to cover most of my living expenses. If I need to pay for long-term care, my hybrid LTC policy is available. My brokerage account and Roth account will also be there as backups. Finally, there will be a death benefit from the life insurance as a legacy.
I believe in diversification in retirement planning, just as I do in investments. I know many money managers look askance at insurance products. But I now understand why insurance agents like the guarantees and security of their products. Like my LTC insurance, I find I’ve become something of a hybrid myself. Most of my assets remain invested in the stock market. But I now also have annuities, life insurance and a hybrid LTC policy on my balance sheet—and they’re there for tax reasons, as a hedge against a surprisingly long retirement and as way to pay for the long-tailed risk of needing long-term care.
James McGlynn, CFA, RICP, is chief executive of Next Quarter Century LLC in Fort Worth, Texas, a firm focused on helping clients make smarter decisions about long-term-care insurance, Social Security and other retirement planning issues. He was a mutual fund manager for 30 years. James is the author of Retirement Planning Tips for Baby Boomers. His previous articles include Early Decision, Your 10-Year Reward and Four Simple Tips.