It is possible to double your retirement income by creating a retirement plan that optimizes your finances. Retirement finances are complicated. Your income in retirement is fragmented, coming from different sources at different rates. There are many different vehicles for people to save for retirement and there are also laws that apply to each of these different vehicles. Then there are investment choices: stocks, bonds, cash, and a slew of other options. Knowing the vehicle, investment choice, tax implication, legal requirements, and when to take action on each item can be perplexing.
Making a mistake can be detrimental to your retirement income forever. When to file for Social Security is an example of an epic decision that shouldn’t be taken lightly. There are over 2,600 rules that govern Social Security. Knowing when to file based on your age, your spouse’s age, your assets, income, required minimum distributions, are just some of the variables you have to take into account to maximize your income. I’ll show you exactly how to double your retirement income but first we need to get an understanding of the fundamentals.
There are four main sources that you can tap for retirement income. I like to look at you this from a financial statement point of view. Look at your life as a balance sheet and income statement. You’ve worked your entire life and you have a lot of assets on your personal balance sheet. Even if you’re 55 and have very little saved for retirement, you still have the lump sum value of your Social Security. You also have years of work experience which you can leverage to generate money in retirement and/or more money right now.
The four sources of retirement income are broken out below:
1) Social Security – Your Social Security income is based on many factors but we can break it down to just a few for simplicity. The year you were born, your current age, and your earnings history are the main factors that make up your payment. The SSA uses your earnings history to come up with your average indexed monthly earnings (AIME). To get your AIME, add up the highest 35 years of your income (as indexed for inflation) and divide by 420. Then apply the bend-point formula to the AIME to arrive at your primary insurance amount (PIA). This is the amount you’ll get at full retirement age.
Social Security is super-complex. The key thing to remember about Social Security is that it’s one big government-mandated insurance program (you thought I was going to say Ponzi scheme, didn’t you). You pay into the system your entire working life. Then you get something back when you retire. You won’t be able to live on Social Security alone unless you have a very bare bones existence and don’t have many bills. The maximum monthly Social Security payment for 2017 is $2,687 at full retirement age.
2) Pensions & Annuities – Some of you may have pensions and or annuities. It’s pretty easy to figure out your monthly amount. It’s given to you and there is very little you can do increase this income. People who have pensions (private, federal, state, union, etc.) make more than twice the median annual income than someone who only receives Social Security. According to pensionrights.org, the median income for someone who only receives Social Security income is about $16,000 while the median income for those who receive both Social Security and some form of pension is over $36,000 annually.
You may have a pension due to you from a job that you left years ago. Many people are in this situation. You should be able to contact your previous employer’s HR to get a letter that gives you an estimate of the amount you’ll receive at retirement age. There are many variables that go into pension accounting and it’s impossible to get an exact payment amount prior to the pension start date. I had a boss that used to call pension accounting voodoo accounting because it was not only complicated, but could change based on the whims of your assumptions. An underfunded pension can be come overfunded if you simply change the underlying interest rate assumptions.
3) Portfolio Income – This includes your 401(k), 403(b), TSP, Traditional IRA, Roth IRA, taxable brokerage account, and alternative investment accounts. Portfolio income is one of my favorite things to write about because there’s a lot of freedom here to do as you wish. You’re in charge of this part of your retirement income with few exceptions. There is no maximum monthly benefit amount. No fear of cuts into your benefit amount. In fact, it’s not even a “benefit” amount. It’s passive income that is generated based on the capital you deploy.
Way back in the day it used to be popular to have a bond portfolio that generated interest income. People would rely on the interest income or “coupon” as income and would continue to hold the bond principal. They would clip the coupon from the bond and use that as their income. Times have changed. Everything is electronic now and simply taking the interest from bonds is not as lucrative as it once was. In the 80’s, you could get a 14% yield on Treasury bonds! Of course inflation was higher back then but those 30-year Treasuries turned into one of the best investments of all time. Imagine buying a 14% 30-year Treasury in 1982. That means that for the next 30 years the government would pay you $140,000 annually on a $1 million in bonds. What a deal!
Now bonds don’t offer the same yields they did in 1982. And holding long term bonds could be downright disastrous for your portfolio. Dividend-paying stocks have become quite popular for those in retirement. The best advantage of stocks that pay dividends is that they tend to raise the dividend payment every year. Some companies raise them a hair. Other companies knock the cover off the ball and give you huge raises. A company that increases their dividends at a rate of 10% will end up doubling the dividend every 7 years. This is MORE than enough to keep up with inflation and you’ll actually see an increased standard of living in the future. This is the goal, right?
You also can’t forget about non-traditional types of investments. They fit into this portfolio income category as well. These would be things like options, metals, real estate. Anything that isn’t a stock or bond falls into this category. I think there are many great new investment options that will be the wave of the future.
4) Employment Income – Who wants to work at Home Depot in retirement? Not me. But that’s not the case for everyone. Some people either enjoy working part-time in retirement or have to. I hope you only work part-time if you want to though. After working a lifetime, there is no good reason to have to continue to work past retirement age: 65 or so. This study found that 27% of Americans plan to “work as long as possible” as part of their retirement plan. Over 20% of people over 65 work, half of which work because of previous financial problems. I hope you don’t have to work unless you want to but this is always an option.
How to Double Your Retirement Income
If you’re coming up short, there are four things you can to get more money. These four things also work together to double your retirement income. To illustrate an example of how you can double your retirement income, we’ll use two different people, Sam and Dave, both of whom are 62. Sam has a smaller retirement income while Dave is the “doubler” and makes more than twice Sam’s retirement income. Let’s see the different choices Sam and Dave make leading up to their retirement.
1) Adjust Asset Allocation – The #1 thing you can do to increase your retirement income is to adjust your asset allocation. This will lead to increased portfolio income. If you want more income, you have to take on more risk. The word “risk” may conjure up negative emotions. Don’t let it. It’s a tool that you own to increase your income. You own it because you know how to take the proper amount of risk given your situation.
Sam doesn’t understand risk. He listens to an old adage that says he should have his age in bonds and the rest in stocks. That means Sam has 62% of his money in bonds and 38% in stocks. Let’s say Sam has a $400,000 portfolio. That means he has $248,000 in bonds and $152,000 in stocks. He earns about 2% on his bonds and 10% on his stocks for a total annual income of $20,160. (I’m using “income” here but including in this any capital gains or return of capital.)
Dave understands risk. He knows that setting up a Triad Portfolio with money in risk-free, core, and alternative investments is the way to achieve the greatest return with the least amount of risk. The efficient frontier curve illustrates this fact. Dave is able to achieve a 10% overall return on a $400,000 portfolio which yields $40,000 in annual income.
2) Delay Social Security – An obvious choice is to simply delay retirement until closer to age 70. You may or may not want to do this based on your specific situation. It doesn’t mean you keep working at your same job all the way through your 60’s. You could instead either take a part-time gig, be a consultant, or live off your portfolio income while you’re delaying Social Security.
Sam plans to claim Social Security at 62 because, well, he doesn’t understand the benefits of delaying. He thinks he needs the money now. Sam’s monthly Social Security payment at 62 is $1,500, about 25% less than it would be at his full retirement age and over 40% less than at age 70.
Dave decides to wait to file Social Security until 70. All variables equal, Dave will receive approximately $2,640 per month at 70. Dave has to dip into his portfolio income a little bit prior to his 70th birthday but he’s okay with that. He realizes he’s not going to match an 8% annual income increase and he’s in good health so it makes sense for him to delay.
To put it another way, an extra $1,160 in monthly income is equal to someone giving you $348,000 in principal (discounted at 4%). It would take $348,000 to generate $1,160 monthly at 4%. Wow! That’s amazing to me and it’s a great way to see the significance of waiting to file Social Security.
3) Save More Now – Dollars today are worth more than dollars tomorrow. This is due to the time value of money which is linked to interest rates. The more you have today to invest the better. You’ll take advantage of the magic of compounding. A good quick way to do the compounding math in your head is simply to use the rule of 72. This rule states that that your money will double every 7.2 years at a 10% rate of return. Or at a rate of 7.2% your money will double in 10 years.
For example, Dave invests $50,000 this year at 10%. He’ll have a total of $129,687 at the end of 10 years.
Sam invests $5,000 each year for 10 years at 10%. He’ll have a total of $87,656 at the end of 10 years. You can do the math on the difference. I’ve included the below Invest Now Invest Later spreadsheet so that you can run your own numbers. You can also access the Google Sheet version here. It’s a great motivator to start saving now instead of continually putting it off and only doing the minimum.
Invest Now Invest Later Spreadsheet
When Warren Buffett was beginning his career, he made over $100,000 in today’s dollars and had a car that was less than $10,000 in today’s dollars. He understood the power of saving as much as possible as early as possible.
4) Convert Home Equity to Cash – I believe that almost everyone should carry a mortgage on their primary residence, even in retirement. I’m not the only financial advisor who thinks that carrying a mortgage in retirement is a smart move. You can read more in depth on why I think carrying a mortgage is a better financial move than paying off your mortgage. The main point behind this method is the interest arbitrage you receive by carrying a low rate mortgage and investing the difference. The below chart shows how the net mortgage cost is much lower than the net investment return you can expect to make in a well-diversified portfolio:
Try your specific situation using the Excel spreadsheet provided below. You can also use the Google Sheet version here. It only takes a few inputs to see how much you could be making on the cash that’s currently locked in your house earning nothing. It assumes you pay the mortgage with the investment income each year and reinvest the surplus over 30 years. You could have $1,029,072 more at the end of 30 years if you simply took the cash out of your home and invested the proceeds.
Carrying a Mortgage in Retirement Spreadsheet
Let me know what you think about doubling your income in retirement by putting your email in below and replying to my introductory email. Have you found any other ways to help double your income? Are you currently having success implementing any of the above tactics?