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WHEN I WORKED at The Wall Street Journal, editors used to quip that, “There are no new stories, just new reporters.” I don’t know whether that’s the case with politics, sports and technology articles, but it sure rings true for personal finance and investing stories. All too often, the latest hot topic just seems like a rehash of something I’ve witnessed—and often written about—before.
That brings me to three financial arguments that never seem to end. Others still get worked up over these debates. But I find they grow ever more tiresome:
1. Should you use the 4% withdrawal rate? This question gets revisited constantly. But guess what? I’ve yet to meet any folks who actually use the 4% rule or any similar strategy, where they withdraw a designated percentage of their portfolio in the first year of retirement and thereafter robotically increase the sum withdrawn each year with inflation.
I’m not saying the 4% rule isn’t useful. Before Bill Bengen published his seminal study in 1994, many folks had crazy ideas about how much they could safely withdraw each year from their retirement savings. We’re talking 6%, 8% and even 10%. Now, expectations are much more reasonable.
But before we once again start arguing over whether 4% is the precise right number, let’s drag our gaze away from our spreadsheets, look at the real world and ask a simple question: How many retirees will robotically increase their 2023 retirement withdrawals by 2022’s inflation rate—which might be 8% or 9%—after suffering double-digit investment losses this year? You could probably shake hands with all of them at the same time.
2. Should you take Social Security early and invest the money? Yes, if you’re a 100% stock investor, claiming Social Security at age 62 and then investing the money should be a winning strategy. I say “should” because there is risk involved. You’re giving up an almost sure thing—higher benefits down the road—for the hope that stocks will fare well. The odds, however, suggest that’ll be a winning bet.
Still, my head explodes whenever I see this debate rehashed for this simple reason: How many retirees do you know who have 100% stock portfolios, without a single dollar in bonds and cash investments? Again, I suspect you could shake hands with all of them at the same time. The fact is, if you have any money in bonds and cash investments, and you have no reason to think you’ll die before your late 70s, a quick breakeven calculation says you’d be better off spending down those conservative investments before you claimed Social Security. End of story.
In other words, like the debate over whether 4% is the precise right number, the debate over whether to take Social Security early and invest in stocks is an absurd waste of time—because it’s totally divorced from how real people behave. My hunch: The only reason this stupid debate lives on is because it makes retirees who claim benefits early feel better about their decision. But these folks aren’t claiming early so they can invest 100% in stocks. Instead, they’re grabbing their benefit early either because they need the money or because they just hate the idea of delaying Social Security and then dying early in retirement.
3. Should you use your spare cash to invest or pay down debt? This debate is similar to the debate over whether to claim Social Security early and invest the money in stocks, but it’s more nuanced.
How so? Forget all the rhetorical huffing and puffing. If you think through the expected return and tax implications of different strategies, you can quickly come up with an investment hierarchy. For instance, if you’re eligible for a 401(k) plan with an employer match, that should probably be the top priority for your spare cash. Next up should be paying down high-interest debt, notably credit card debt. After that, you might fund tax-deductible or Roth retirement accounts, or use your spare cash to buy stocks in a regular taxable account. Those will likely be a better choice than devoting money to repaying student loans or mortgage debt.
But what if the alternative is to buy bonds or cash investments in a regular taxable account? In that case, you should probably pay down debt. The reason: The interest you’ll avoid by ridding yourself of debt will likely be higher than the interest you’ll earn by purchasing those bonds and cash investments.
Yes, paying down debt could leave you with less access to cash. But between emergency savings, credit cards, a home equity line of credit and the ability to withdraw your original Roth IRA contributions tax-free at any time, it should be possible to cover any surprise short-term expenses.
That raises the obvious question: If what I say is true, why do many folks resist paying down debt? Some may have mortgages or other debt with interest rates that are less than the yield they can earn on bonds, so buying bonds would be the rational choice.
But others aren’t so rational. Some folks cling to mortgage debt that’s costing them dearly, even after factoring in any tax savings. Other people argue that it’s somehow virtuous to always carry at least a little debt. Oftentimes, it seems these folks are puppets of financial advisors who nudge their clients to continue carrying debt. Why? That leaves more money in the clients’ portfolio—thereby ensuring the advisor earns fatter fees.
Jonathan Clements is the founder and editor of HumbleDollar. Follow him on Twitter @ClementsMoney and on Facebook, and check out his earlier articles.
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Another consideration is the cost of health insurance. If you live in one of the 38 states with expanded Medicaid and taking SS before 65 forces you onto the ACA exchange then the premiums + potentially taxable SS means it usually pays to wait until at least 65. This assumes one can keep their income low enough to qualify.
The SS decision does NOT require complicated math. There are only three main issues: 1) Life expectancy is near 80 years old. 50% die before, 50% after 80. Think about your health and family history. Hold that thought. 2) For those who die at exactly age 80, the total SS payout adds up to exactly the same whether you take SS at 62, 65, or 72. That is the “breakeven” point. If you die before 80, the total payout for age 62 signup is MORE than waiting. If you die after 80, the total payout is MORE for those who waited, but the 62’s still get SS, just less than the max possible. 3)The deal maker/breaker: If you wait, do you starve, live on savings, or keep working to pay living expenses? Most people need the money and CAN NOT wait. If you have savings or income, then you can afford to wait if you expect to live past 80. Maybe die early? Then take SS at 62, leave assets to heirs. Otherwise, you lived off assets for 8-10 years and less is left for heirs. No complicated “8% a year” thinking
Thanks. That’s always been my problem with the 62,66,70 argument as there at least two unknown variables to consider: 1) when will we die, and 2) how much will we earn on our investments? If you choose to defer and then either die early or the markets tanks, you (or your heirs!) may not be happy.
Every time I read a good article like this I stop at certain points to “digest” it. Is what I am doing right? Should I be making changes? If my planning was right six months ago, should I adjust it because things have changed? I think once I got to the place where I didn’t mind leaving a little bit of money on the table I was happier. I may not maximize my social security payments, but I don’t care as long as I have enough money to do what I what and cover the basics when I’m no longer “doing.” Heck, I might even singlehandedly save social security!
Social security maximization is just a financial decision based on calculation. If you can realistically forecast a guaranteed increase in your assets each year you delay, then ok take your SS early. However, we all know that is not possible. SS is providing you an 8% increase each year, in which you cannot solve for within your variable assets. A single year of deferral can make all the difference. Plus, it may also leave a higher benefit to your spouse.
as for the 4% rule, it is more a starting point or barometer. Right now municipal bonds have a YTM of 4-6% depending on the quality, and a TEY of 6-8% depending on tax rate and duration. So higher rates are definitely providing retirees with great opportunities.
Solution: IBonds at 9%, demand notes at 2-3%, municipal bonds between 4-6%, and treasuries north of 3%, there are some great opportunities at this time for the yield investor.
Good article, Jonathan, on what my friend likes to call “Champagne Problems” (can you imagine what these debates would sound like to people who are income, housing, and food insecure?).
I think the universal answer to all three items is: Do whatever you want. You’ve already won the money game. You can’t go wrong from here.
I’ve heard those referred to as “First World Problem” as well as “Champagne Problems.” Sometimes I stop and try to realize how lucky I really am.