People are worried again. Retirees are really getting worried.
The fear in the air is palpable.
How do you possibly find peace of mind in this environment? I suggest you find out if you are on the right side of the Tipping Point. If you are, then you have little to worry about - financially.
What is the Tipping Point? It is the point at which a retiree's wealth will neither grow nor decline as long as they live.
If you are on the right side of the Tipping Point, you are now at a stage where your net worth in retirement is growing on average, every year. If you are on the wrong side of the tipping point, your net worth in retirement will decline on average, every year.
This Tipping Point isn't based on an investment number. It is based on all of your numbers.
For example, if you are a 67-year-old couple who are spending $65,000 a year, you need to have a net worth that is growing on average by more than $65,000, after taxes and before expenses.
If that couple has government pensions of $25,000 a year, after-tax investment growth of $30,000 a year (4 per cent after tax growth on $750,000), and a house that is averaging $20,000 in gains a year (4 per cent on $500,000), then this couple is past the Tipping Point ($75,000 of growth vs. $65,000 of expenses). On average, they will grow wealthier the longer they live.
Of course, that growth isn't a straight line. Because the world changes and people's situations change, you'll want to, on occasion, update things.
Having said that, this couple can probably relax about their financial situation. They don't really have longevity risk. If they both live to 100, they will very likely be in a better financial situation. If their expenses go up by $5,000, it will still leave them in a consistent to growing situation. In some years they will be worse off, and some better, but the total mix provides a long term foundation – and financial peace of mind.
Now let's look at a couple that is the same age, but is on the wrong side of the Tipping Point.
If that couple has government pensions of $25,000 a year, after-tax investment growth of $10,000 a year (4 per cent after-tax growth on $250,000), and a house that is averaging $20,000 in gains a year (4 per cent on $500,000), then this couple is on the wrong side of the Tipping Point. On average, their wealth will decline by $10,000 a year. Luckily, they still have options.
The first option that would get them on the right side of the Tipping Point is to adjust their spending down to $55,000 or less.
The second option is for them to simply be aware that on average their net worth is declining by $10,000 a year, but they have $750,000 of net worth. With that pace, they will run out of money in 75 years.
Bear in mind that this example is simplified to illustrate the point: I haven't shown inflation on expenses or indexing on pensions. I haven't shown the compounding effects of a growing portfolio, nor the weakening earning power of a declining portfolio. We are also assuming that someone is willing to sell their home at some point, if necessary. All of this needs to be factored in to truly determine where you stand with the Tipping Point.
The key to the Tipping Point is that retirees are getting more nervous – in part because they don't really know where they stand. If they knew that they were on the right side of the Tipping Point, it would not only provide Peace of Mind, but also allow them to live a little more than they are doing at the moment.
If they are on the wrong side of the Tipping Point, at least they could put together a plan and take specific steps to help.
To simply watch the markets and hope for the best is a recipe for stress and worry.
Ted Rechtshaffen is president and CEO of TriDelta Financial Partners, a firm that provides independent financial planning advice. He has an MBA from the Schulich School of Business and is a certified financial planner. He was vice-president of business strategy at a major Canadian brokerage firm.
Follow Ted on his blog at The Canadian Financial Planner.
Ted Rechtshaffen