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Retirement Planning: The Elections and Asset Allocation October 20, 2008

Posted by retirementwithaplan in retirement.
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This post contains two separate topics concerning retirement planning. The first segment looks at some of the economic proposals on the table offered by the candidates (along with some suggestions of my own) and the other post takes a look at asset allocation in these difficult times. Both topics deal with long-term plans and some obvious shortsightedness.

A Look at Early Withdrawals from Your Defined Contribution Plan

The candidates have offered a look at their economic plans and as expected, Obama’s plan is the most prudent, McCain’s not so much.

Obama suggests: “Temporarily suspend mandatory annual withdrawals from Individual Retirement Accounts and 401(k)s. Current rules require investors to start selling stocks at age 70½. Exempt withdrawals made up to the required minimum amount from taxation. Allow savers to withdraw 15 percent, up to a maximum of $10,000, without paying a penalty as the law currently requires for withdrawals before age 59½. These withdrawals are subject to normal taxes.”

While McCain offers: Temporarily suspend mandatory annual withdrawals. Current rules require investors to start selling stocks at age 70½. Allow savers who are younger than 59½ to withdraw up to $50,000 at the lowest tax rate of 10 percent in 2008 and 2009.

McCain’s plan would never see that $50,000 returned to those plans. Obama’s plan, offers less withdrawal options but better short-term accountability.

We should also keep in mind that these are changes to tax regulations. By the time Obama actually takes office, only the unfortunate few will still be reeling over the credit mess. This makes no solution, even in the short-term, very appealing or probable.

Perhaps expanding the withdrawals to specific needs beyond what is currently allowed (college, first time home buyers), such as meeting current and past mortgage obligations or funding the cost of refinancing, using the assets in the 401(k) as collateral for those loans (which would mean blocking any further sales of investments in them and forbid reducing contributions below 3% of pre-tax income – 2% of which could go to repayment), and possibly even offering a government guarantee to businesses who continue to make or increase contributions and matches to the defined contribution plans to help the stem the temptation of selling.

Dismantling the system as it is structured, even temporarily would have long range effects on anyone fifty years or older. Short-term solutions are simply crowd fodder and can be mostly ignored.

On the subject of asset allocation:

There is an awful lot of talk about asset allocation and most of it makes no sense. Consider the fact that stocks have out performed both bonds and bond/stock mixes over the last hundred years and have allowed most retirees to enjoy a much better funded retirement than if these investors had followed the allocation to less risk.

In the short-term, it might seem like a great notion but in the long-term, balance, not allocation is the answer. Balance simply suggests market participation over a wide variety of stock investments while avoiding overlap, achieving the best tax advantage, and something asset allocation fails to consider: inflationary pressures on returns.

Here’s a great example – and recently the media has been full of sensational stories of folks who have lost, as the article in the Washington Post reported, $5,000 of the $59,000 a 64 year-old physics professor had saved in his 403(b). He laments that he has a pension and is eligible for Social Security but it would still give him less than what he is making now.

First: Does anyone out there really expect their retirement income to pay them the same income they were making when they were working?

Secondly: This is an occupation that allows a person to work well into his/her seventies and beyond without any physical toll on their health other than normal aging. A construction worker of similar blue-collar job does not allow these types of considerations.

Third: Less than $60,000, even with the recent losses – and you will see why the subject of the article, Nalin Parikh has lost so little and gained almost nothing – “socially conscious equities, 25 percent in international stocks, 25 percent in a money market, and 25 percent in inflation-linked bonds”. These have not been winners for years – with the exception of the international stocks, which probably got him as far as he has gotten.

Mr. Parikh should consider himself very lucky indeed. He has a pension, a good job, a home that is seemingly without foreclosure problems and an above average amount of savings. On the other hand, he should lower his post-retirement expectations of how he sees his lifestyle and consider his 403(b) as a fund of last resort, pull no more than 4% out per year, increasing the withdrawal, if possible each year to adjust for inflation (for example, the first year he might pull out $2360 and increase that by $80 or so to account for inflation at 3.5%) and that account will never run out of money.

That might not sound like much but Mr. Parikh hasn’t saved that much. This is how you do the math – not with calculators but with expectations based on real numbers.

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Comments»

1. Don Davidson - October 20, 2008

Regarding your question: “Does anyone out there really expect their retirement income to pay them the same income they were making when they were working?

I sure do. In fact, I’ve seen it done quite often. But it is the exception and not the norm for most everyday, individual investors – especially when it comes to their investment behavior. For example, the retirees/pre-retirees in this category I know are taking advantage of the current bear market and are borrowing to buy mutual fund portfolios of common stock if they’ve already put their cash to work.

They’ve done this during each bear market they’ve experienced and most will admit that this is where the bulk of their wealth was created.

2. retirementwithaplan - October 20, 2008

Don,

Good luck with that goal. I sometimes get so focused on the 100-plus million or so folks who are struggling with day-to-day investments, insurance, taxes, etc., that I forget that there are some real devoted, goal-oriented people out there actually doing what I have been preaching/suggesting/espousing about for almost a decade.

I’m not so sure that the cost of borrowing makes any sort of investment worthwhile though. It is a treacherous technique that may net only a few scant percentage points and add buckets of risk to what would have been a relatively straightforward process.

That bear market has been going on for almost as long as I have been writing about financial stuff and profiting from it will only come from, at least in my humble opinion, long-term focuses and not short-term bursts of activity.

Thanks for writing and once again, best of luck.

Paul


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