By Jeffrey E. Wherry, CFP®, CLU®, ChFC®, AIF®
If you’re saving for retirement, you’re probably used to seeing the value of your retirement accounts go up and down with the financial markets. However, once you retire, volatility may be a greater concern.
Taking withdrawals from your retirement accounts during market downturns can significantly reduce their value over the long term. This is why it’s important to have alternate sources of retirement income that are not directly impacted by market conditions. To better understand this problem and how you can prepare for it, consider the following example.
A Potential Retirement Scenario
Imagine you’re 65 and planning to retire. You have a substantial portion of your retirement savings in a traditional individual retirement account (IRA). Assume that the investment results for this account over the next 20 years of your retirement will mirror the annual returns of the S&P 500 Index from 1973 to 1992. During this time period the average annual return was 12.75%. However, there were five years with negative returns. You may not have accounted for the effect withdrawing money from your investment account following a year with a negative return could have on the overall balance of the account.
Also, as you look to withdraw these savings over the course of your retirement, either because you need the funds for living or other expenses, or because you want to satisfy the required minimum distribution (RMD), you may be advised by your accountant that your withdrawal will be taxed as ordinary income.
A Different Approach
Instead of taking out of your IRA the full amount you needed to cover your expenses every year, what if you avoided taking money out the following year after the portfolio produced a negative return. (You’d still withdraw at least the annual RMD2 once you turned 72.)
Few people want to sell an investment that is lower this year compared to last year (due to a negative return). By avoiding a withdrawal the year after a negative return, you would be allowing your money to continue to work for you during the ‘down’ years, rather than being forced to take out money when your portfolio was experiencing a loss. Over the course of a 20-year retirement, even if this happens three or four times this alternative withdrawal strategy could have a significant effect on the overall portfolio’s balance. In order to implement this type of strategy you would need to have some type of account or non-correlated asset available to access money following the years your investment account had negative returns.
Alternate Sources of Income
There are a number of ways to create sources of income that you can depend on during down markets. Bank products such as certificates of deposit and savings accounts are obvious choices. Investments such as money market funds and short-term government bond funds are also options. These and other near-cash investments should be part of every retiree’s safe income sources. However, while they are low-risk investments, they also provide lower returns.
Another option to consider is participating whole life insurance. In addition to providing permanent life insurance protection, whole life accumulates guaranteed cash value that increases each year on a tax-deferred basis and never decreases in value due to market conditions. So, it can be a reliable alternate source of funds during financial downturns. Whole life insurance also offers some attractive income-tax advantages that allow the policyowners to access the cash value on a tax-advantaged basis. Overall, it can be an important part of your retirement income strategy and should be given consideration well before retirement as a piece of your overall insurance portfolio.
 The S&P 500 price index is a measure of common stock market performance in the U.S. It is an unmanaged index and does not reflect the fees or expenses associated with an actual investment. Individuals cannot invest directly in an index. Past performance is no guarantee of future results.
 The Required Minimum Distribution (RMD) is the minimum amount that must be withdrawn annually from a traditional IRA once the account owner reaches age 72 (age 70 1⁄2 for those who reached age 70 1⁄2 by the end of 2019), based on the account balance at the start of each year. If the full RMD is not taken as required, the short-fall will be subject to an excise tax.
 Distributions under the policy (including cash dividends and partial/full surrenders) are not subject to taxation up to the amount paid into the policy (cost basis). If the policy is a Modified Endowment Contract, policy loans and/or distributions are taxable to the extent of gain and are subject to a 10% tax penalty if the policyowner is under age 59 1/2.
Access to cash values through borrowing or partial surrenders will reduce the policy’s cash value and death benefit, increase the chance the policy will lapse, and may result in a tax liability if the policy terminates before the death of the insured.
Treloar & Heisel, Treloar & Heisel Wealth Management, and Treloar & Heisel Property and Casualty are all divisions of Treloar & Heisel, Inc.
Investment Advice offered through WCG Wealth Advisors, LLC, a Registered Investment Advisor doing business as Treloar & Heisel Wealth Management. Treloar & Heisel Wealth Management is a separate entity from The Wealth Consulting Group and WCG Wealth Advisors, LLC.
Insurance products offered separately through Treloar & Heisel and Treloar & Heisel Property and Casualty.
Treloar & Heisel, Inc., Treloar & Heisel Wealth Management, and WCG Wealth Advisors, LLC do not offer tax or legal advice.
This content is intended for general informational purposes only and should not be construed as advice. Please consult the terms of your insurance policy and with your licensed insurance professional. TH-200180
Jeffrey E. Wherry, CFP®, CLU®, ChFC®, AIF®, is Director of Research and Planning, Treloar & Heisel Wealth Management.