By Kevin M

What happens if you aren’t able to build up a large retirement investment stash—are you doomed to live on the streets in retirement? Probably not.

While retirement investing may be the single best way to prepare for retirement, there are other strategies that can at least help to offset the impact of inadequate savings.

One of them is to pay off debt.

The elderly are drowning in debt

Debt has become a chronic problem across the board, but it’s also affecting retirees. A Yahoo Finance/Wall Street Journal article,
Debt Hobbles Older Americans reports that debt has become quite common among current retirees and near retirees:

“Most people used to pay off their debts before retiring. But as wages have barely kept up with rising prices over the past 35 years Americans have pushed debt higher, living beyond their means. Now, people are postponing retirement, cutting living standards or both. All kinds of debt held by this age group have risen, but the big problem is mortgages. Thirty-nine percent of households with heads aged 60 through 64 had primary mortgages in 2010 and 20% had secondary mortgages, including home-equity lines, according to research group Strategic Business Insights’ MacroMonitor. That was up from just 22% and 12%, respectively, in 1994.”

That represents a near doubling of the number of people in their 60s carrying both first and second mortgages in just a little over 15 years. The article goes on to report that the situation has only gotten worse as the housing slump has wiped out equity faster than people can pay down their mortgages. And apart from mortgages, people are also moving into retirement with higher levels of auto and credit card debt than ever.

Why the change from previous generations?

The debtor mindset

Millions of people have come to view debt as benign and the idea that it ever needs to be fully paid off has largely gone away. There’s a common belief among people preparing for retirement that the primary focus needs to be on building up retirement investments, and that they’ll “get right” about debt as they get closer to retirement. That probably won’t happen.

The flaw in that thinking is that after a lifetime of using credit, you won’t be able to stop and suddenly begin living without it. It’s a certainty that a lot of current retirees—who are now carrying substantial debt into retirement—thought the same way when they were younger. Somehow, we’ll magically stop using credit, and it will just kind of…go away in time for retirement!

Why the rising asset/rising debt parallel won’t work for retirement

In the best of all worlds, we save for retirement at the same time we pay down and pay off our debts, ultimately learning to live without them. But life has an uncanny way of derailing the best of intentions. It’s not at all hard for a person to both increase retirement investments and increase debt at the same time. After many years, you’re looking at two very large piles of money that may even cancel one another out.

Save for retirement we must, but eliminating debt can be equally important. If we think about the basic purpose of debt—to enable us to buy now what we can’t really afford—what it does is put us on a path toward lifestyle inflation that isn’t consistent with the goal of retirement. It’s not just a matter of debt per se, but rather the lifestyle it affords that we settle into. Our standards go up with the cost of our possessions and activities, which not only will make retirement more expensive, but it will also reduce our ability to prepare for it between now and then.

More bang for the buck

Let’s get down to the numbers–how can paying off debt be more effective than saving for retirement? It’s purely a matter of math.

Let’s say you’ll be carrying a $100,000 mortgage balance into retirement, and the payment on it is $1,000 per month—we’re assuming that you’ll be halfway through a $200,000 loan, which is why the payment is high based on today’s rates. Now at $1,000 per month ($12,000 per year), you’d have to earn 12% on an investment portfolio of equivalent size just to stay even with the payment; do you think you can do that every year until the loan is paid?

It’s very doubtful. You’d have to be 100% invested in the stock market which has the potential to fall, setting you back even farther. Over a 10-15 year period, you’ll be more likely to see returns in the 7-8% range (or even zero if the past dozen years is any indication!), which means your cash flow would improve quite a bit more if you concentrated on having your mortgage paid by retirement instead of an additional $100,000 in savings.

The same is true of car loans—paying off the loan will have a more positive affect on your cash flow than an investment equal in size to the loan balance. And credit card debt…it goes without saying.

The critical takeaway is that the payoff of debt lowers your expenses more dramatically than the income from an investment of equal size will provide. By being debt free, you’ll need less income, and that can help offset a shortfall of retirement investment savings.

Once debt is gone, everything else is easier

Here’s an inescapable fact: there is an asymmetric relationship between debt and investments. Debt payments are fixed, investment income is not. Once we realize that, the course of action changes. If all you do to prepare for retirement is to get completely out of debt, you’ve probably done the single best thing you can. I’m not saying that you shouldn’t save for retirement, but what I am saying is that if time is growing short and investments will be insufficient, paying off your debts will be the single best strategy.

The unexpected bonus is that once your debts are paid, not only will your living expenses be lower (maybe MUCH lower) but you’ll also free up money for saving and investing. The sooner you can do this before retirement, the more you’ll save.

The key is to pay your debts off once and for all, not only to reduce expenses and have more cash for investing, but to establish a debt free position as a lifestyle as far in advance of retirement as possible. Once you learn to live without it, everything else will be easier.

Right now there are a lot of people struggling with building retirement savings in the face of unstable employment. Do you think paying off debt and learning to live without it could be a viable Plan B?

Related Posts:

Preparing for SEMI-Retirement
Your Retirement Plan is in More Trouble than You Realize
7 Reasons to be Self-Employed
Good Retirement Planning Should Include a Low Cost/Debt Free Lifestyle
Will a Million Dollars Be Enough to Retire On?
”Retiring” on Business Income

By Kevin M

We all know about the importance of investment diversification, especially it comes to retirement planning—today I’d like to focus another type of diversification, one that’s even broader in scope. It’s income diversification, and it could quite possibly be the most neglected part of retirement planning.

With investment diversification you’re looking to create a portfolio that has the right mix of mutually exclusive investments that will improve performance by lowering risk. Fair enough. Income diversification is the process of creating income streams from several sources which not only increases cash flow, but also lowers the reliance (risk) on any one of them.

With retirement, this can be done with investment earnings and Social Security, but if you want to create a third income source, you can do it through a retirement business.

It’s even entirely possible that an income stream from a business may provide a more secure retirement than a large nest egg (more on that later). And the combination of a business and a nest egg and Social Security may provide the best retirement plan possible—especially if your retirement savings aren’t where they need to be. It’s something to plan for.

A Million Dollars is A LOT of money!

Let’s cut to the chase—in order to fully retire, and have enough income to pay your living expenses, and have enough money to cover contingencies, and have some left over to continue to grow your investments so they don’t get wiped out by inflation—you’d have to have at least a million dollars saved up at retirement. More probably two or three million, given inflation. I’m just being realistic here—it truly is a tall order.

Do you think you can do it? If not, you need to be making other plans.

Holes in traditional retirement planning

While it is possible to save up a million dollars (or even more) over 30-40 years, it won’t happen for most people—that’s a statistical fact. Investment models produce pretty results, but let’s face it, life doesn’t always cooperate with our plans!

Here are a few examples:

1. Assumed rate of return on investment (ROI) may not support projections
2. In the pursuit of an ROI that will support our retirement needs we may take on too much risk and get burned for the effort
3. A future stock market crash could nullify years of retirement savings especially if it happens near or during retirement
4. People DO make investment mistakes; so do financial advisors—we’re all human
5. Job instability may lead to erratic retirement funding
6. Long-term unemployment means retirement isn’t being funded
7. The unemployed are often forced to draw down retirement savings
8. Interest rates on fixed income investments are far too low to provide a viable alternative to equity investments in volatile or falling markets

In the financial world it’s an article of faith that we can invest to cover what ever needs we’ll have in retirement but little is said about the real life that takes place between now and then and often gets in the way of the best laid plans. In looking at the list above it’s unlikely we’ll be able to invest around any one of these, let alone a combination of two or more.

The ultimate reality is that life is not perfect and for that reason alone we need to have back up plans.

Creating income streams may be more important that retirement savings

That reads like an exaggeration, but here’s why I feel confident in saying it: it takes a lot of money to create income streams from investments. For example, the convention on the “safe rate of withdrawal” on retirement assets is 4%–you can withdraw 4% of your investment value each year and still maintain the value of your investments. I think that’s more of an assumption than it is a convention.

If you withdraw 4% for living expenses, and inflation is running at 4%, you’d have to earn 8% on your investments in any given year. With interest rates hovering around 1%, that pretty much means you’ll need to have most of your money in the stock market in order to accomplish that (see items #2 and #3 in the previous section). Can you really do that?

Sometimes…sometimes not.

To take it a step further, let’s say you project a need for $40,000 in investment income in retirement—how much money will it take to “buy” that income stream? One million dollars. Again, that’s a lot of money, and most people are unlikely to have it. And, thanks to inflation, the further you are from retirement, the bigger that number will be.

A “retirement business” to the rescue

A business is dynamic—the income from it will adjust to what ever future price levels will be. You can grow it through your own efforts. It doesn’t depend on the ebb and flow of interest rates or of the performance of the financial markets. And it won’t require a million dollar investment!

That last point is critical. You can create a $40,000 income from a business without putting more than a few hundred or a few thousand dollars up front. That’s truer in the Internet Age than ever. The growth will be driven by your time, effort and talent, not by your capital contributions. Best of all, when you’re finally ready to move from semi-retirement into full retirement, you can sell your business and have more money to add to your nest egg.

What kind of business?

This is really the foundational question. You probably don’t want it to be related to what you’re now doing for a living, but rather something you can enjoy. Think about a business you’ve always thought of having—maybe your dream business. Retirement should be a time to pursue dreams that weren’t possible earlier in life—seize the opportunity!

On a more practical level, here are some criteria to consider:

• The business shouldn’t be capital intensive—it should be skills-driven and thus easier to grow and to leverage
• It should be a business that you have the talent, desire and skills for—or the willingness to acquire them
• It should be a business that doesn’t have age restrictions
• It should be a field that has room for growth (avoid declining industries)
• It should be in an industry that affords a lot of flexibility and is driven by innovation (rigid industries are usually the ones that work purposefully to limit competition)
• If it’s the kind of business you’d like to have even if you didn’t make any money doing it, you’re probably looking in the right place!

Here’s my real life example…I always wanted to be a writer, but 20 years ago when I first gave it a try I found it impossible to get past the “gate keepers” who kept tight control over the industry. I spent most of the years since working in the mortgage business—and everyone knows what happened in that industry. I exited at the end of 2008.

But something was different in early 2009 then it was in the early 1990s—we now have the internet and writers are needed all over the place. Goodbye gatekeepers, hello opportunity! I’ve been running this blog and freelance blog writing for others, and while I’m not getting rich (yet!), I am making a living. And that’s in under three years (2.5 this month to be exact!)

You can do the same. It requires a certain relentlessness, but it IS doable.

What about my retirement—do I ever kick back and enjoy a life of blissful nothing?

Here’s something I learned both from having my own business and from knowing dozens of small business owners during my public accounting career: the self-employed seldom want to retire as much or in the same way that salaried people do. I’ve known many self-employeds who have worked into their 70s and even 80s.

Employed people sometimes “put in time”, which is especially true in the last years before retirement. Self-employed people don’t sense the imperative to retire at all. If you own the business, it’s a part of who you are and you aren’t so anxious to abandon it. You also have the option to ratchet things down a bit, to take it easy if you choose. I have a lot of self-employed friends and the topic of retirement seldom comes up. Maybe it’s because they see it as quitting on themselves. Taken that way, retirement can and does look a lot different.

If you start running your own business there’s an outstanding chance you’ll feel the same way.

How do you make it happen?

How do you create your own business? One step at a time is always best. If we’re talking about a business you’ll have in retirement, the process will be even easier. Since you probably have years before you retire, you can start a business now as a hobby business and grow it over the years just as you would a retirement portfolio.

Don’t put this off however, thinking that you can wait and do it a year or two before retirement. A business isn’t like a job that begins providing an income immediately; it could take years to reach that point. Also, your first effort could fail and you’ll need time to try again (and still again if necessary!).

Another important point: since you want any retirement business to be on the easy side, the sooner you begin, the more time you’ll have to fine tune the business and become “accomplished”. When you reach that level, businesses are often easy, or at least easy–er–and they blend a lot better with semi-retirement.

Have you considered starting a “retirement business”? Do you agree that this could be a viable option for people who have inadequate retirement savings?

Related Posts:

Buy a Business OR Build One From the Ground Up?

Why Most New Businesses Fail – And How Not to Become One of Them

A Successful Online Business Requires Realistic Expectations

7 Ways to Improve the Success of Your New Business

7 Reasons to be Self-Employed

Preparing for SEMI-Retirement

Beyond Buy-and-Hold #60

By Rob Bennett

I was talking over the wonders of Valuation-Informed Indexing with a fellow money blogger at the recent Financial Bloggers Conference in Chicago and, effusive fellow that I am, I uttered a phrase that shocked even me. I was explaining how the academic research of the past 30 years (the research that must not be mentioned when Buy-and-Holders are in the room) allows us all to achieve far higher returns while taking on greatly diminished risk. “That’s investor heaven!” I often cry.

This time a different catch phrase popped out of my mouth — “Risk-Free Stock Investing!”

“I don’t know if I would go that far,” she laughed. And in a technical sense, she’s right. There is no such thing as entirely risk-free stock investing.

Risk-free stock investing may be closer than we think

Still, the reality is that we can get a lot closer to it today than just about anyone realizes is possible. Certificates of Deposit (CDs) are not risk-free, but the risk of investing in CDs is so slight compared to the risks of investing in stocks following a Buy-and-Hold strategy that there are many who think of them as providing something close to a risk-free investing experience. The happy reality today is that there are circumstances in which stocks are a less risky asset class than CDs for those open to the idea of taking valuations into consideration when setting their stock allocations.

Say that you are debating between investing your retirement money in CDs or in a broad stock index at a time when stocks are selling at fair-value prices. Most experts would tell you that stocks are the better choice because you need to take on the added risk of stocks to have any realistic hope of financing a middle-class retirement by the normal retirement age of 65.

That’s the conventional wisdom. But is it so? There is now 30 years of academic research and 140 years of historical stock-return data showing that it is very much not the case. When stocks are selling at fair-value prices — a scenario that is obviously much more the norm than the 16 years of sky-high prices we have seen during the time-period from 1996 forward –there is less risk attached to stock investing than there is to investing in CDs.

Can stocks actually be less risky than CDs?

Let’s take a look at the numbers.

A regression analysis of the historical data shows that the best annualized 10-year return you can hope for when you buy stocks at fair value is 12.3 percent. The most likely annualized 10-year return is 6.3 percent. The worst possible annualized 10-year return is 0.34.

The 12.3 return and the 6.3 return both handily beat the 2 percent real return that might available from CDs. So there’s no risk in investing in stocks at that price level so long as you feel confident that you can avoid any panic sales for 10 years. It’s only the worst-case scenario that presents any problem.

There is only a 5 percent chance that your return will be less than 0.34 percent. There is only a 10 percent chance that it will be much less than 2 percent real. So long as you earn 2 percent real or better, you beat the return that was available from CDs. So is it not fair to say that the risk you take when investing in stocks at those prices is the one-in-ten chance that you will see a worst-case returns sequence pop up? It sure seems so to me.

Still, there is no chance of seeing a 10-year return of less than 2 percent real if you invest in CDs. So there is certainly is a sense in which it can be said that stocks are the more risky asset class.

But wait.

The retirement planning “X” Factor

Is there not a risk factor that we are not considering here?

None of us know precisely how much money we will need in retirement. We don’t know what goods and services are going to cost in future days and to what extent we will want to buy goods and services that today are not even available to us (many of today’s retirees did not budget for cell phones or wide-screen, high definition televisions). We don’t know whether we will have particularly costly health problems or not. We don’t know the extent to which we might need to help out our children financially in our retirement years.

So one of the risks you must weigh when making investment choices is the risk that you will run out of money in retirement not because your investment choices performed poorly but because you miscalculated your spending needs. There’s a 10 percent chance that the CDs will provide better 10-year returns than stocks in the circumstances outlined above. But there is a 90 percent chance that the stocks will provide higher returns. There’s a 50 percent chance that stocks will provide a 10-year annualized return of three times the return that will be provided by the CDs.

The fact that stocks perform so much better in the vast majority of circumstances does not negate that 10 percent chance that investing in them may leave you with less money than what you would have had if you had invested in CDs. But I think it would be fair to say that it counters it.

You are taking on more than one form of risk when you choose investment classes. One is the chance that the investment class will perform poorly. Another is that you might miscalculate how much you need to retire and thus end up in trouble even if all of your investment choices perform precisely how you hoped they would.

Stocks counter this risk because they perform so much better than CDs in the vast majority of return sequences likely to pop up. Investing in stocks exposes you to slightly more of one type of investing risk but investing in CDs exposes you to much more of another type of investing risk. Stocks are in an overall sense the less risky asset class, in my assessment.

Rob Bennett argues that personal finance planning is not about self-denial anymore. Rob’s bio is here.

Related Posts:

This is the Best Time in History to be a Stock Investor
The Second Depression Cometh
Where Are You Investing Your Money Now?
Am I Crazy For Being Out of the Stock Market for 14 Years?
Your Retirement Plan is in More Trouble Than You Realize
Nine Reasons Why Stock Valuations Make a BIG Difference in the Long Run

Beyond Buy-and-Hold #54

By Rob Bennett

It’s Sunshine Rob here again to bring you more happy face news on the wonders of Buy-and-Hold. The topic of today’s sermon is: Your Retirement Plan Is In More Trouble Than You Realize.

Everyone knows that we have experienced a Lost 12 Years in the stock market. Stock prices are today close to where they were at the top of the bubble. Investors have earned a small gain from the receipt of dividends but most of that has been eaten up by inflation. We have essentially been standing still.

All acknowledge that that’s bad news. But few realize how bad.

Twelve years doesn’t sound like all that long a time. Most of us have life expectancies of perhaps 80 years. We certainly never wanted to go 12 years without seeing the numbers on our retirement portfolios increase, but into every life some rain must fall. My sense is that the general feeling is that this too will pass.

We are underestimating the damage a 12 year freeze is causing

Few of us start saving before age 25 and most of us hope to retire by age 65. So we only have 40 years in which to accumulate the million dollars or more in wealth needed to support a decent middle-class retirement. A good number of us graduate with large student loans. Members of that group might not be able to begin saving in a serious way until age 35. Those people have only 30 years to accumulate the million dollars.

To lose 12 years when you only have 40 to do the job is to lose something close to 30 percent of the time available to you to finance your retirement. To lose 12 years when you only have 30 to do the job is to lose close to half of the time available to you to finance your retirement. We are sinking fast. This is serious stuff.

I know what some of you reading these words are thinking. “Yes, we’ve had some bad years, but a string of bad years is likely to be followed by a strong of good years.” Am I close?

No dice.

Once the bad years go on long enough that stock valuations are far below fair value, this will be so. It really is true that bad years eventually put in place the circumstances needed to see good years. But guess what?…

Stocks are at scary high valuations even today!

Stocks were so insanely overpriced in the late 1990s that even 12 years of zero returns has not been enough to pull valuations back to where they must go for the stock market to generate good returns on a going forward basis. We are today at the valuation levels that in ordinary circumstances would be causing informed investors to start preparing for a crash.

If you think that the hit you have taken over the past 12 years has been tough to bear, you ain’t seen nothing yet! Stocks don’t become a good investment class again until we see capitulation. You don’t hear people saying good things about Buy-and-Hold when they are preparing to capitulate. There are still lots of Buy-and-Holders around today. We are nowhere close to capitulation yet.

Others are thinking that these losses are not so bad given how many good years the stock market dished out from the early 1980s through the late 1990s. Fair enough. But most of us were using calculators that assumed annual returns of 6.5 percent real per year in all years when checking whether our retirement plans were on track in those days. How many have gone back to the calculators and checked what numbers they produce when realistic assumptions are entered?

The damage done by compounding of returns in REVERSE

You have heard about the power of compounding returns? It is often described as the eighth wonder of the world. There aren’t too many of us who would be able to retire before age 90 if it were not for the compounding returns phenomenon.

When we lose 12 years of returns, we lose all the compounding that would have applied on those higher portfolio numbers too. We are today experiencing the power of compounding in reverse.

Our retirement hopes are not fading a little bit with each additional year of zero returns, they are fading a lot. It’s happening in a soft, gradual way, so we don’t necessarily get alarmed to see it play out. But compounding is a powerful force both when it applies in the regular way and when it applies in reverse and the power of this force is not diluted for those who do not notice what is happening to them.

I’m some fun guy, huh?

You might not like the message, but don’t shoot the messenger

If things are bad, you need to know. Not knowing that your retirement plan is going to fail is like not knowing that you are headed down the road to a heart attack. Your real friends want you to know so that you can do something about the situation before the odds are stacked too heavily against you. Time lost as a result of living in denial can never be won back.

There are lots of things we can all do to save our retirement plans. I’d like to tell you about them. But the reality is that there are not too many who are willing to join in the conversations we need to have today because they are still living in denial about the dangers of Buy-and-Hold.

Following Buy-and-Hold clogs up your financial arteries big time, okay? Only your true friends will tell you that.

We need to talk. I hope that I’ve scared you enough to cause you to give the idea some serious thought. There’s still time to save that retirement ticker of yours!

But not so much that you can afford to be wasteful of any of that which remains.

Rob Bennett reports that sex is overrated or at least so his wife often observes. Rob’s bio is here.

Related Posts:

This is the Best Time in History to be a Stock Investor
The Second Depression Cometh
Where Are You Investing Your Money Now?
Am I Crazy For Being Out of the Stock Market for 14 Years?
Fear of Admitting Investing Mistakes Can Cause Bigger Investing Mistakes
10 Important Things to Get Right With Investing

By Kevin M

A few weeks ago I did a post on retirement from a different direction. In Preparing for Semi-Retirement I made the case that due to economic conditions, many people would be forced to accept a modified version of retirement, and that such a retirement should be fully anticipated and prepared for. I believe most people will do no better than some form of semi-retirement.

Today I want to take that idea a step farther, and suggest that for many people, non-retirement is more than a remote possibility. And I’m not just referring to people in the lower income ranges either. Economic conditions are changing rapidly, and no one has been more affected than people over 50. No matter how well prepared you might be up to that point, if your economic future is threatened in the last decade and a half of your working years all of your retirement assumptions will be subject to change.

Here’s a critical point: you won’t be exempt from this outcome just because you’re in your 20s or 30s now. One day you will be over 50 and you’ll be facing all of the problems older workers are dealing with now and maybe even a few more.

In fact, many younger people entirely dismiss challenges to the golden retirement assumption, preferring to place something close to religious faith in the rich retirement plan projections that are the staple of the financial world.

But let’s put the happy projections aside for a moment and consider the following from the real world:

• Companies are shedding their most expensive workers and people over 50 are often at the top of the income rung at the same time they represent the greatest liability to group health insurance plans. This trend shows no sign of reversing.

• The loss of a job by a person over 50 often means the end of a career, even a once lucrative one.

• The loss of a job often translates into the loss of health insurance, creating the possibility of a medical financial crisis. Private plans are too expensive for the unemployed and underemployed, and the combination of age and health conditions can make a person uninsurable.

• The loss of a job not only means the end of contributions to retirement plans, but also the beginning of premature withdrawals. Money set aside to fund retirement is needed to survive in the present. A well funded retirement plan can be drawn down in a lot less time than it took to build up.

• Two stock market crashes in a decade have dashed the retirement plans of many workers. Older workers, closer to retirement, have less time to recover losses and are understandably shell shocked.

• Social Security and Medicare will probably be there in the future, but the nation’s budget problems are highly likely to cause major downgrades in the generosity of both programs. Full retirement ages have already been extended.

• Traditional defined-benefit pension plans have largely faded into the dustbin of history.

• Love ‘em or hate ‘em, the unions that once protected the lion’s share of middle class workers jobs and paychecks are practically non-existent outside the public sector.

I don’t think that it’s a stretch to say that the current crop of retirees are probably the last of the “golden retirement class” stretching back to World War II. Getting to that hallowed status required the type of career and income stability that doesn’t exist in today’s economy, and especially for those in the critical years leading up to retirement age.

The million dollar retirement question

OK, enough bad news; I don’t think I’ve disclosed anything here that hasn’t been trumpeted elsewhere on the web, though it is instructive to assemble the different challenges in one place. What strategies can we implement to deal with disrupted or even canceled retirement plans?

1. Get real about your retirement plan. Real life seldom works within the cozy boundaries of optimistic financial projections. Continue to save and fund your retirement, but view it as only one component of a larger plan and don’t assume it will—or even can—guarantee you anything.

2. No matter what your age, live well beneath your means. Don’t assume that you’ll be able to downshift your lifestyle preferences after 20, 30 or 40 years of reckless abandon. This will not only help you to accumulate savings more rapidly, but it will also keep lifestyle inflation tendencies in check.

3. Have money saved in both retirement plans and non-retirement plans. Uncle Sam’s budget problems are in the trillions–don’t ignore the possibility that plans which are currently tax sheltered might be fair game in the next budget crunch. You’ll also need money to deal with your own budget problems between now and retirement.

4. Expect at least one more stock market crash before you retire. We’ve had two in the past decade—any investment strategy that ignores this fact is beyond naïve.

5. Invest in stocks–sometimes. Rob Bennett has written over 40 articles on this site championing the importance of stock valuations and I couldn’t agree more. That means not being over-invested at market tops, but it also means buying in at market bottoms when everyone else is running scared. What’s a top and what’s a bottom? Take a look at the performance of the market over the past 20 years for some valuable clues, but don’t assume that stocks are an “all weather” investment. The people who did over the past ten years have been burned by that assumption—twice!

6. Be prepared for a health insurance shock at any time. Private coverage can be hard to get and very expensive as you get older or have chronic health conditions. Look into group coverage from unconventional sources. I wrote a post on another site listing 11 part time jobs that offer health insurance. One of them is Starbucks—and they have a store in nearly every neighborhood in America. That could be a viable option in a pinch.

7. Plan to get on the Social Security gravy train as soon as possible. There’s a school of thought that has you delaying collecting benefits to maximize them, but you may need Social Security to cover less than expected income from other sources. It can be close to impossible to get private health coverage by age 65 and Medicare may not only be the cheapest option, but the ONLY one.

8. Keep basic living costs as low as possible. Keep housing, cars, and most of all, debt, to a minimum. Flexibility is invaluable in facing crisis or diminished options, and you’ll sacrifice it if you have too many possessions, and even more so if they’re encumbered with debt.

9. Plan on having some form of self-employment. Though you may be highly employable in your younger years, don’t assume that will be the case forever. At some point in your life, self-employment may be the only alternative to unemployment! Get a business started before you need it. I’m doing that right now with freelance blog writing. It’s the kind of business you can run as side venture, escalate it to something more if your career runs aground, and carry it right into retirement if need be. Try this or find something similar that will provide you with income options come what may. The stable employment, defined benefit pensions and generous Social Security income that the current group of retirees are enjoying are quickly disappearing—probably forever.

 
Have you considered the possibility that your retirement savings may not be as generous as hoped, or that instability in your employment may not allow you to amass enough funds for a golden retirement—or even any retirement at all? We sometimes say such things tongue-in-cheek, but what “Plan B” provisions have you implemented or considered?

Related Posts:

Over 50 – No Pension, No 401K – What Now?

A View From the Economic Cliff

7 Reasons to be Self-Employed

Good Retirement Planning Should Include a Low Cost/Debt Free Lifestyle

Will a Million Dollars Be Enough to Retire On?

Radical Self-Reliance in the New Economy

By Jessica Wagner

Saving, whether it’s for retirement purposes or otherwise, is tough enough without having that added difficulty of being self-employed. Many people have found the benefits of being their own boss and making their own hours but putting money away isn’t as easy when you don’t have a company with good retirement plans.

It’s important to know that you can do this even if you are self-employed. Small business owners and online entrepreneurs alike have found ways to build up their retirement and savings funds. There are many ways to do this and there isn’t just one savings plan that you can invest in and IRAs have long been one of the most popular avenues for retirement savings.

Tax deferred retirement plans

An IRA is an account held by a custodial institution such as a bank or brokerage firm. Generally, IRA’s are designed for middle-income investors. There are no income restrictions for most middle class taxpayers and an IRA is available to everyone.

With a traditional IRA, you can contribute up to $5,000 per year ($6,000 if you’re over age 50) and the tax deduction of the investment is determined by your Adjusted Gross Income (AGI). Depending on your filing status (single, joint, etc.) your contributions can range from fully deductible to completely non-deductible. If you withdraw before 59 ½ then you will be subject to a 10 percent penalty fee. This is subject to exceptions so consult the IRS web site to see if this applies to you.

Traditionally, 401(k)’s are available to those who work for a company that has a plan set in place for their employees, but there are also Self-Employment 401(k)’s available. These plans allow self-employed individuals or business owners to contribute to this plan while receiving tax breaks for the money they put away.

This plan generally allows the participant to contribute up to $16,500 per year, which not only represents a large contribution to retirement savings, but also a substantial tax benefit. Contributions to both and IRA and a 401k are deductible not only for federal income tax, but also for state income taxes. (Neither however results in a deduction for FICA taxes however.)

Creating income streams to fund your savings plans

If you do have your own business and you don’t have the available income to invest larger sums, you might want to consider making extra cash through different opportunities. And some of the best income earning opportunities can be found online so you don’t even need to leave your home or your place of business to make them happen.

Some of these options in fact can prove to be quite lucrative and range anywhere from freelance writing to taking market research surveys. Such opportunities can provide the steady additional cash flow needed to fund savings, and do it in less time than you might think.

Be sure that any income earned from side ventures will in fact be targeted for savings, and not blended with your regular budget. If the extra money is put into retirement savings, there will be little or no income tax on it, which should make your portfolio grow even faster.

Other savings options

You can also choose to set up a savings account or even certificates of deposit (CDs). In this way you can either save money until you’re ready to commit it to long term retirement plans, or build it up separately as a savings source in addition to your retirement investments. It’s always best to have some money in retirement plans and some outside since you never know what can happen between now and the time you retire.

If done wisely, you can start saving for your later years with very little effort. Set aside the extra cash you make and place it directly in various investment alternatives. It doesn’t have to be a savings account or CD. You can choose to invest in the stock market but this option comes with some risk in addition to a return that can be much greater than low interest accounts.

There are many savings choices available for those who are self-employed and these are just a few options. While searching for additional income and investment opportunities—on the internet or elsewhere—be careful of any offers promising huge returns for a nominal investment. There are many scams out there so make sure that any savings plan you invest in and any business opportunity you take on is legitimate.

If you’re self-employed, what are you doing to fund your savings and retirement plans?

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Beyond Buy-and-Hold # 40

By Rob Bennett

It’s 1980, you’ve just turned 35, and you have only saved $10,000. You believe that you will need to accumulate $1,000,000 to finance a decent retirement. All of a sudden, it hits you — you had better buckle down or you are not going to make it.

You write your first budget and that makes it possible for you to put aside $10,000 each year for the next 30 years. And we see good returns during most of those years. The average long-term U.S. stock return is 6.5 percent real. For the 30-year time-period from January 1980 through the end of 2009, we saw an annualized return of 7.39 percent real, nearly a full point higher.

Did you make your goal?

Not quite.

A neat little gadget to calculate real returns on stocks

I have a new calculator at my site that does the math for us. It’s called the Returns-Sequence Reality Checker. It reports that you ended up with a portfolio balance of $896,080.

The real point of the calculator, though, is to show you how easily you could have made it. Small changes in the patterns by which stock returns play out can make all the difference. Few of today’s investors know this and it is in my view one of the most important realities of stock investing.

In 1980, we saw a return of 15.76 percent. In 2008, we saw a return of a negative 39.29 percent. What if the returns for those two years were switched? What effect do you think that would have had on your goal of accumulating $1 million in assets before you turned 65?

Such a change wouldn’t have any effect on the 30-year annualized return at all. That number is 7.39 percent in both scenarios.

But experience the big loss in the early days of the 30-year time-period rather than in the later days of the 30-year time-period and you meet your $1 million portfolio goal easily rather than coming up $100,000 short. $1,611,164. That’s the final portfolio balance in the scenario where you take your big loss -early and one of your many nice gain years late.

Timing is more important than return

Most of us invest in stocks hoping for strong returns. We are focused on the wrong thing.

The return we obtain matters, but not as much as we think. What often matters more is the pattern by which the return we obtain plays out.

You want losses — lots of them — in the early years of your investing life-cycle. Gains are fine when you are getting close to the point when you will be drawing down your portfolio to finance your living expenses. You don’t want gains in the early years. Gains in the early years hurt you.

That sounds strange. Gains cannot really be bad, can they?

Gains can be bad. Very, very, very bad. I believe we could bring about a revolution in investor psychology if we could help investors come to understand why this is so.

Say that you were planning on buying a particular car and you did research showing that the fair-market value for a car of that make and model and year is $20,000. Then you learned that a neighbor who you know takes good care of his cars was about to put a car of that made and model and year up for sale for $10,000. Would you curse your luck?

You would not. When we buy cars and cakes and cameras and comic books, we are all happy to pay low prices. We understand that the less that we pay for the cars and cakes and cameras and comic books, the more money we have to buy other products and services, products and services that go by names that do not begin with the letter “c.”

We throw this commonsense approach to buying things out the window when it comes time to buy stocks.

When stock prices go up, your portfolio value goes up. That’s why you like price gains. You like to see a big number on the bottom line of the last page of your portfolio statement.

The thing you are missing is that, when stock prices go up, you have to pay more for the stocks you buy. Most of us buy stocks with each paycheck. When stock prices move upward, the price of the thing we are buying with each paycheck is going higher.

And the price increase will likely remain in effect for a long time. For those of us still a good number of years away from retirement, price gains represent a small plus and a big minus.

Price gains hurt us more than they help us. Conversely, price drops help us more than they hurt us.

Rob Bennett warns that there is such a thing as reverse compounding returns.Rob’s bio is here.

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By Kevin M

Even in the face of an apparent economic recovery, many millions of people are stagnating in their jobs, unable to get a promotion or to move to a more promising position with a competing company. Many more are still unemployed or even under-employed. That may be the reality of our time, but should we sit still and wait for better times? Is that even a strategy?

Cutting living expenses is one way to deal with a comatose employment situation, but I’ve argued in the past that frugality has its limits. When all is said and done, you can only cut your expenses so much before finding new income sources becomes an absolute necessity.

If you aren’t content to continue to just muddle through, and want to make things happen in your life, increasing the number of income streams will be the most constructive way forward. And starting a side business is the single best way to do this.

How can starting a side business build a better future?

Moving forward in an uncertain job market

Job security is a thing of the past. We could write books about how that’s playing out but it’s completely unnecessary. The more important issue is how we deal with that reality?

If jobs are uncertain, the best thing we can do is to prepare ourselves for self-employment. Since most people have never been self-employed, the lowest risk way to do this is to begin a business as a side venture while you’re still employed by your company. You’ll have the cash flow from your job, and that will give you as much time as you need to get your business up and make it profitable.

If you haven’t been promoted in a long time, and there’s little prospect of getting a better job elsewhere, it’s time to get started with a side business now. In time, your business can grow into a full time venture. And even if it doesn’t, and it merely functions as a part time business, it can either supplement your income or be one source among several income streams in the event you lose your primary job entirely.

Coping with the rising cost of living

Despite official declarations of an inflation rate sitting reliably within the 1-4% range, the cost of goods and services that we need—food, energy, utilities, healthcare and education have soared. If you aren’t being promoted, and the raises you get are only of the token variety, you’ll have to increase your income outside your job. A side business is a logical way to do this.

Retirement planning

Will Social Security be there when our turn to retire comes around? I think so, but it will almost certainly be at a level well below what today’s retirees are enjoying. Maybe it will be pushed out to age 70, or maybe it will be means-tested—we can’t know. And as pretty as self-directed retirement plan projections are, none can adequately account for the effects of one or more stock market crashes, or of a prolonged period of unemployment.

A successful side business can provide a workable Plan B against these possibilities. It can be a much needed income stream to supplement a reduced Social Security check and a less than expected return on a 401k. This is real life—even in retirement we’ll need options.

Building up savings and investments

It’s tough enough stretching a paycheck to cover necessary living expenses and—hopefully—a little bit for extras. But savings and investing can be lost in the course of just surviving! There always seems to be yet another bill to pay, another unexpected expense soaking up every extra dollar.

Often, the only way to develop a serious savings and investment plan is to create another income stream to fund it. A side business can provide the source not only for building savings, but also to pay down and pay off debt, and to increase investments for retirement.

Bringing out your “inner entrepreneur”

Do you ever dare to ask yourself ”what do I truly want to do with my life?” It can be a lot of fun, but it often gets short-circuited on the but-I-have-bills-to-pay issue. And yet despite this cold dose of reality, most of us are fascinated by the possibilities. Deep inside, we all sense that we could be more than we are–if only…

Why is it important to be an entrepreneur? If we can’t rely on jobs to provide for our futures, then we need to rely on ourselves! That almost certainly means some form of self-employment. But beyond the question of earning a living, self-actualization is a very real human need. We all want to be the captains of our own ships “some day”, to create our own unique paintings of our lives.

If you don’t feel that that’s happening through your main occupation, a side business gives you another shot. Who do you want to be in your life and your occupation? Maybe the answer to that question is closer than you think. A side business may provide that answer—and a whole bunch of other good things along the way.

If you think that building a side business may be the right path for you, but you don’t know what kind of business to go into, check out my post, The Freelance Blog Writer Side Hustle. Blog writing is one of the most promising side ventures you can enter because it’s growing rapidly and has excellent potential to lead to still more opportunities. Even if you’ve never written professionally in the past, this post can help you get started.

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By Kevin M

If you’ve spent much time on this site, you know that I’ve taken aim at the assumption that homeownership is good for everyone. It’s not that I think owning a home is bad, but more that I don’t think it’s right for everyone. In addition, I think that the advancement of- and unquestioned belief in- universal homeownership was one of the root causes of the real estate and mortgage meltdown.

Today I’d like to zero in on homeownership as it relates to retirees, and by extension, to retirement planning. I’m going to risk committing a heresy to make the case that many would be better off renting in retirement.

Why might some retirees be better off renting?

Carrying a mortgage into retirement

The conventional wisdom is that you should have a home of your own and no mortgage on it when you retire–so far, so good. But what if your house won’t be paid off before retirement? Or what if you’re already retired and you still have a mortgage?

For many people, that’s the reality. More than half of retirees were carrying mortgage debt in 2009, which was double the percentage just two years earlier. Apparently a generation raised with debt as a traveling companion doesn’t feel compelled to eliminate it in retirement as previous waves of retirees have.

For the vast majority of people, being able to retire at all will require a reduction in living expenses; since a mortgage is typically the single largest expense, carrying it into retirement will be like dragging an anchor from the past.

It begs the question: what’s the difference between paying a mortgage, and paying rent? I’d argue that the answer is “not much”. When you’re a tenant, you pay rent that enables you to live in the property. When you pay a mortgage, you pay “rent”—a.k.a., interest—on the money you owe that enables you to live in the property.

So if it’s a wash whether you rent or own with a mortgage, why not own? Read on.

The tax benefits of home ownership may evaporate

Tax breaks are one of the major reasons driving people to own homes, but for many seniors that benefit diminishes or even disappears completely. Since the income tax is progressive (tax rates rise with higher income) the homeowner benefit declines with the lower income that retirement usually brings.

Not only is income usually lower, but some of it also escapes taxation altogether. Social Security income, for example, is only partially taxable for federal taxes while states exempt it completely. And most states offer generous income exclusions for retirees. Here in Georgia, seniors get a $35,000 exemption for “other retirement income”—and that’s per person.

Lower income/less taxable income means less homeownership tax benefit. For many retirees, there will be no more tax benefit to owning than with renting.

A renter doesn’t have to worry about repairs and maintenance

If you rent, you don’t have to make repairs. New roof–$5000, $7000, $10,000—not your problem. New furnace—$5000, $7000, $10,000—again, not your problem. These expenses, often completely ignored in the homeownership equation, can be a budget buster for retirees on a fixed income.

And how about maintenance? Maintaining the lawn, trimming hedges, raking leaves, shoveling snow—the homeowner has all of these responsibilities, the renter has none. For the retiree, or the person planning for retirement, these are more than just minor ongoing responsibilities.

Who will maintain your property if you’re unable to? Many retirees like to travel; and as much as we may not want to think about this, many have or will develop health issues that will make routine maintenance undesirable or even impossible. Now you’re looking at paying someone else to do what you can’t, and another expense is added to the budget. A retiree who rents doesn’t have this issue.

Even if you have no mortgage, you’re never really “rent free”

It’s sometimes said that people who have paid off their homes live “rent free”, but as popular as that notion may be, is it even true?

Not entirely—and maybe not at all.

We’ve already discussed repairs and maintenance as an ongoing cost of owning a home, but you’ll also have real estate taxes, homeowners insurance and possibly home owner’s association dues. In some areas of the country, real estate taxes have gotten so high that the monthly expense comes close to what it would cost to rent an apartment. None of these expenses will disappear because you paid off your mortgage.

The idea that you’ll ever truly be rent free is virtually a myth, and we haven’t even gotten to another significant “expense” involved in homeownership that rarely gets much attention…

Opportunity cost

A house is a capital trap, and one that’s owned free and clear has even more money tied up in it. While not having a mortgage payment is a substantial advantage to a retiree, much of the benefit is lost when we consider what else could be done with the money if it weren’t tied up in the house, also known as the opportunity cost.

Earning income on the money to generate an additional cash flow is one opportunity cost. This a more obvious issue when interest rates are higher than they are now. Since interest rates on savings vehicles are at historic lows, it doesn’t seem to be much of a factor. But low interest rates have caused a real issue for retirees in this regard, creating a very real opportunity cost from another direction.

With interest rates on savings hovering in the low single digits, access to principal has become more important to retirees than the income it generates. It is for this reason that reverse mortgages have become so popular—people need the cash that’s tied up in their homes. And—ironically—how much of that cash is being borrowed out to maintain and make needed repairs to the home itself?

In a higher rate environment, a retiree could rely on the cash flow from the income on his investments—now he may need to draw down the investment itself to survive.

Is renting in retirement right for YOU?

Is renting the better option for all retirees? No, not for all—but then neither is homeownership. Each retiree, or perspective retiree, has to consider his or her housing situation in light of personal circumstances, and not rely on general assumptions or on “conventional wisdom”.

When might you be better off renting than owning in retirement?

1. If you have few investments apart from the equity in your home

2. If the necessity of taking a reverse mortgage is more than a remote possibility

3. If your current house payment—with or without a mortgage—is higher than prevailing rents in your area

4. If you’ll be carrying a mortgage into retirement that won’t be paid off any time soon

5. When there’s a distinct possibility that you may need to make a move shortly after retirement; this could be for health reasons, to follow your children, or because now that you’re retired you don’t want to live in any one place

6. When health problems or a desire to travel necessitate paying others to maintain your home

7. When selling your home will mean the difference between a comfortable retirement and a life of struggle

8. When you’re “over-housed”—the 4000 square foot home you raised your family in is three times more space than you need now and you’re tired of paying for what you aren’t using

9. When there’s so much equity in your home that freeing it up will open up some…exciting life opportunities

Consider which path is best for you in light of the above questions—you may be surprised to find that renting is the better opportunity for you in your retirement years.

Fortunately the tax code offers favorable treatment if you want to sell your house and cash out. The IRS allows a one time exclusion from tax on the gain on the sale of your primary residence of up to $250,000 ($500,000 if married, filing joint) that will enable most people to liquidate their homes with little or no tax consequences.

Have you ever considered renting as part of your retirement strategy? Do you see any downsides? Are there other reasons to rent that I haven’t listed?

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By Kevin M

It’s become almost fashionable these days to talk about the impending bankruptcy of Social Security, as if its demise is all but a done deal. But is that even the case? And how should we plan for what ever we might expect to get from the system when our turn at retirement comes along?

Let me state at the outset that I’m not a blind optimist cheering on the “company line” about Social Security as if dark clouds weren’t looming on the horizon. The fiscal ship that is 21st Century America is not an enviable one and the bill will certainly come due either gradually (let’s hope) or suddenly, but either way Social Security is likely to be there in the future—in some form or fashion.

Why the “bankruptcy” of Social Security is unlikely

People speak almost casually of the bankruptcy of Social Security, as though the program exists in a vacuum where it can quietly implode without any collateral damage to the rest of the government or country. But what would happen if it did?

To believe that Social Security will disappear is to predict the collapse of the entire federal government. A Social Security bankruptcy would almost certainly be part of a much larger general bankruptcy by the US government. The same government that issues monthly checks to senior citizens also funds national defense, interest on the federal debt, various forms of welfare, transfers to the states, foreign relations and the administration of justice, among others. If it can’t afford to pay out Social Security, it won’t be able to cover all the other programs either, at which point it no longer exists as a practical matter.

Social disorder. Social Security is the largest of the entitlement programs and in a very real way it’s the bedrock of all of them. Much of government legitimacy rests on monthly checks to retirees and if that were stopped for any reason the trust the citizens place in the state would evaporate. The implications for general social order could hardly be measured, but we can fully expect that it won’t be pretty.

The affects on the already battered housing sector would be substantial. Part of the explosion in the number of households after the second world war can be directly traced to Social Security. With a monthly government check, a company pension and/or a stream of investment income, millions of seniors have been able to live independently of their children or third party care facilities. The disappearance of Social Security would almost certainly cause a massive collapse of the housing market (and its price structure) as millions of households would disappear.

Widespread impoverishment of the elderly. For millions of seniors, Social Security is either the largest part of their income or their only income. If it were taken away many would be unable to feed themselves or seek even basic medical care. Those who don’t have family or friends to move in with could quite literally be out on the street; that’s tough enough for the young, let alone for the elderly.

Political unfeasibility. Because of all of the above, the political party holding power presiding over the demise of Social Security will be voted out of office at the next election, never to make a significant appearance on the national political scene again. Politicians know this, and will do everything possible to prevent it from happening.

I’m not predicting any of this will play out, but I am hoping to show that if you believe Social Security will (or even can) go bankrupt, what you’re really calling for is doomsday.

The ramifications of the collapse of Social Security would be so far reaching, so catastrophic, that it would be impossible to believe that the program would go under and leave the rest of the country intact. The same conditions that would eliminate Social Security would be so severe that the possibility of having anything like a functional society—let alone a comfortable retirement—would almost certainly be out of the question.

To expect the bankruptcy of Social Security is to believe the United States as we now know it would no longer exist.

Planning for what ever the future of Social Security will be

If after all of that, you still believe that Social Security will go away, you’re best plan of action won’t be to save and invest money, but rather to map out some strategy for radical self reliance. Instead of concerning yourself over the most promising growth stocks or with paying off your mortgage, your time would be far better spent finding some raw land to grow your own food, as well as a power source and water supply to go with it. Beyond that, plan on working until you drop.

That’s the kind of world that will almost certainly exist if Social Security were to disappear. Not entirely because the program would no longer exist, but more because of the factors that will have caused it. I’m not certain we can even prepare for that outcome.

Now the doomsday scenario aside, what’s a more likely outcome and how should we be preparing for it?

More likely, Social Security will be there no matter what your current age. What the Social-Security-is-going-bankrupt prophets miss is that the cost of not having it are far greater than the cost of keeping it.

Yet you don’t have to be a prophet to understand that the program is due for a major day of reckoning. It’s probable that benefits will be reduced, made 100% taxable, or we’ll be paid in currency that’s worth far less than it is today. We should expect that there will be some benefit from Social Security, but also that it will be considerably less than it is now, especially in real terms.

It’s hard to prepare for a scenario that’s short on specifics, but flexibility and adaptability will be critical. Overall, plan for a lower cash flow at retirement than current retirees are now receiving.

Some steps to take now in preparation for less help from the government:

1. Plan on a part time career or business for as long as you’re healthy enough to work
2. Practice living beneath your means well before retirement
3. Get out of debt and learn to live without it
4. Save and invest more money than you ever imagined you could
5. Invest your money conservatively; Social Security is a “social safety net”—if it’s cut back you’ll have less margin for error with your investments
6. Invest globally; the economic fortunes of the world are changing quickly and not all of the best investment opportunities are here in the US
7. Scale back expectations for retirement; plan on being happy even if you won’t own a vacation home in the tropics!

If you’re interested in developing additional income streams, either for retirement or to help prepare for it and fund it, check out my post on freelance blog writing. It’s the kind of work and business you can easily run well past retirement age.

I’ve kept this discussion restricted only to Social Security, but its sister program, Medicare, may be even more worrisome. Do you have any thoughts on how we should be preparing for major cuts in that???