Half a million dollars might sound like a lot of money, but if you’re approaching retirement, is it enough?
If you have $500,000 in a pre-tax IRA and expect $2,000 per month from Social Security, you may have enough money to retire at age 67. A half million dollars is a relatively modest nest egg, but it can still generate a comfortable income depending on your standard of living. Here’s what to think about as you plan for retirement around these figures.
A financial advisor can help you build a comprehensive plan for retirement. Match with a fiduciary advisor today.
How Health and Longevity Affect Retirement Options
First of all, make sure to consider your health and longevity. Are you planning to retire at age 67 for health reasons or will you be healthy enough to continue working, if you need to?
As you hit your late 60s and 70s, your health may become more unpredictable. Even if you’re still in good health, your workday may become more tiring as time goes on. You may not be able to continue working after 67, regardless of finances. So while it’s worth considering whether you can continue to work beyond age 67, it’s also critical to think about how long your $500,000 may last in the event that you need to call it a career at 67. A financial advisor can help you decide when the right time is to retire.
Income and Social Security
The next question is how much money your portfolio will generate.
“Lower net worth situations typically imply less room for error,” Bryan M. Kuderna, founder of the Kuderna Financial Team told SmartAsset. “There’s always a lot to consider, but… removing variables to simplify the math means $500,000 over a 20-year hypothetical retirement equals $25,000 annual spend down.”
That’s the starting point: $4,000 per month in cash withdrawals and Social Security income.
While half a million dollars seems like a lot of money, it’s a rather modest retirement savings. A lot of your income will depend on how you invest this money and structure your withdrawals. For example, as Kuderna notes, you could keep everything in cash and withdraw about $2,000 per month for 20 years.
On the other hand, say you invest your entire portfolio in bonds. On average, modern corporate bonds tend to return about 4% per year. By doing so, you could reduce your withdrawals slightly and live indefinitely on about $3,666 per month in Social Security and interest payments. Or, if you’re willing to draw down on the principal, you could generate $4,800 per month over 20 years in combined benefits and withdrawals.
A lifetime annuity could generate a little more, giving you a combined income of about $5,300 per month in Social Security and retirement payments. The difference here is that it would last indefinitely, with no risk of exhausting the principal. And if you need help picking investments for your retirement accounts and want advice on annuities, consider speaking with a financial advisor.
Your Spending in Retirement
Spending is a key component of retirement planning.
Depending on how you manage your money, you can probably expect an annual income between $48,000 (at roughly $4,000 per month) and $63,000 (at roughly $5,300 per month). More is possible if you invest for more aggressive returns, but that will mean taking on more risk.
Whether this income will be enough money is largely dependent on your spending.
Now, one of the green flags here is your Social Security income. A $2,000 monthly benefit at full retirement age means that you likely earned around $70,000 per year in your working life – not far off from what your combined retirement income.
But there are three major things to consider here.
First, taxes will take a bite out of this income. Your IRA is a pre-tax portfolio, so withdrawals are taxed as regular income, not capital gains. The IRS will tax you based on the tax bracket you’re in when you make your withdrawals.
Second, you must plan for inflation. While your Social Security benefits will be indexed for inflation – meaning they typically increase on an annual basis – cash and fixed-income assets such as the bonds and annuities discussed above are not. You may need to invest in assets that will provide a growth element to your portfolio and help you outpace inflation.
Finally, you may have to choose a more aggressive withdrawal rate, which could expose you to longevity risk – the possibility of outliving your money. Adhering to the standard 4% rule would mean withdrawing just $1,666 per month from your IRA in your first year of retirement and that may not be enough to meet your spending needs. An approach that generates about $3,000 per month in IRA income will get you closer to your likely pre-retirement income, but it will mean withdrawing 7.2% of your portfolio in year 1 of retirement, which is quite high. A financial advisor can help you figure out how much money you can afford to withdraw from your IRA.
Can you afford to retire? It depends entirely on how your portfolio is invested and your goals.
IRA Management Tips
- Building an IRA requires more planning than a 401(k), which is typically managed by a professional on your behalf. Here are a few tips and strategies for making the most of your IRA.
- A financial advisor can help you build a comprehensive retirement plan. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
Photo credit: ©iStock.com/Luke Chan, ©iStock.com/GetUpStudio, ©iStock.com/Ridofranz