Laura answers a listener's question about saving and investing as you approach retirement or have a newly retired partner or spouse.
Laura answers a listener's question about saving and investing as you approach retirement or have a newly retired partner or spouse.
Transcript: https://money-girl.simplecast.com/episodes/how-to-save-and-invest-approaching-retirement/transcript
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Welcome back to Finance Friday, another special edition of Money Girl, where I answer your burning money questions! Today's topic comes from Yannie, who says:
"My husband recently retired at age 60, but I'm still working and plan to retire in about six years. Since my income covers our expenses, my husband doesn't need to take distributions from his 401(k) and will delay his Social Security benefits.
We have about one year's worth of income in high-yield savings. Do you think that's a good amount?
Now that we live on a single income, we qualify for Roth IRAs. So, should we invest extra money in a brokerage, traditional IRA, or Roth IRA?"
Thanks for your questions, Yannie–it sounds like your finances are in great shape! This podcast will answer your questions about navigating saving and investing as you approach retirement or have less income with a newly retired partner or spouse.
Welcome back to episode 937 of Money Girl–I appreciate you spending time with me! I'm Laura Adams, an award-winning author, on-camera spokesperson, female money speaker, and founder of The Money Stack, a Substack newsletter.
You can learn more, ask questions, and sign up for the Money Stack at LauraDAdams.com. You can subscribe for free or become a paid member with access to live educational events!
How much emergency money do retirees need?
If you're a Money Girl reader or podcast listener, you know that I recommend building a healthy emergency fund. A cash reserve is essential for staying safe if your income drops, or you incur unexpected expenses.
The right amount of emergency money is different for everyone. For instance, if you're single with no dependents and have a stable job, you may only need savings equal to a month or two of your living expenses. However, if you have a large family and are the sole breadwinner, you likely need savings of at least six months' worth of living expenses.
But what if you're like Yannie, with a retired spouse, and plan to step away from the workforce in a few years? When you have less income or expect to live on a fixed income, it's typically a good idea to maintain a larger emergency fund.
Since Yannie has a year's worth of expenses in a high-yield savings account, that's likely enough for her current stage of life. I recommend that she keep the funds in an FDIC or NCUA-insured account if it isn't already in one.
Yannie didn't mention how much she earns or her annual expenses, but if her savings exceed $250,000, she should spread out the funds into accounts at different insured institutions. That's because the FDIC and NCUA insurance covers you for up to
$250,000 per insured bank or credit union.
As Yannie approaches retirement, she may want to boost her emergency fund to more than a year's worth of expenses, perhaps up to eighteen months or two years. However, the amount of savings you need in retirement depends on your sources of guaranteed income.
For instance, if you get paid a monthly pension or Social Security retirement benefits, you may rely less on your investments for income. Let's say you're retired and have a significant, unexpected expense, such as a necessary home repair or unreimbursed medical care. If you already have a relatively large guaranteed monthly income, you may not need to tap your investments to cover it.
But if you rely on distributions from your retirement investments for income, having a sufficient cash buffer gives you more flexibility. Suppose the markets and the value of your investments are significantly down. That would be a bad time to liquidate some of those assets to pay for a home repair or any other reason.
A better strategy would be to withdraw funds from your emergency fund to cover needed expenses and allow your investments time to recover. Selling off investments that are down means taking a loss and having to sell more shares because they're temporarily worth less. That means you'll have fewer shares when prices bounce back and a much smaller nest egg.
Having quick access to a cash reserve helps you avoid selling investments at a loss. Plus, you won't have the stress of liquidating your nest egg at the wrong time if you find yourself in a financial pinch.
Keeping a healthy emergency fund also allows you to pay for something special, such as a once-in-a-lifetime trip or a gift to a family member, without unnecessarily depleting your retirement savings or incurring debt.
To sum up, the more you depend on retirement account distributions for income, the larger your emergency fund in retirement should be. It can be a valuable resource for avoiding debt or selling investments when the market is down.
But there is a downside to keeping too much in savings. The problem is that it likely won't keep pace with inflation, which has historically been about 3%. Having investments that yield a higher return is your best defense against inflation eroding your purchasing power over time.
There's a balance you must strike between holding the right amount of emergency savings and investments. Pre-retirees and retirees need safety, but they also need to keep the majority of their portfolio growing to beat inflation and provide a lifetime income.
Yannie is doing great right now, but she may want to slowly build her emergency fund so she has an even larger cash cushion by the time she and her husband are both fully retired.
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How should retirees invest?
I mentioned that most retirees should keep their retirement funds growing. That's because you might need income for several decades if you retire in your early 60s and remain in relatively good health. Approximately one-third of today's 65-year-olds will live until at least age 90, and one in seven will reach the age of 95.
Today's longer life expectancies and higher costs of living mean that your current income may not be sufficient in the future. With an average inflation rate of 3%, your living costs could double in less than 25 years. In addition, if your health takes a turn for the worse, you may need to move into an assisted living facility or hire in-home care, which can be quite expensive.
Yannie asked about how to invest extra money during the transitional period when her husband is retired, and she's still working. Since she has earned income, I recommend maximizing every possible tax-advantaged retirement account. She didn't mention having a workplace retirement plan, but that's the first account I'd use when possible.
Since Yannie's husband is retired and without earned income, he's not eligible to make an IRA contribution; however, Yannie can contribute on his behalf. That's known as a spousal IRA. For instance, if she's over 50, she can contribute $8,000 to her Roth IRA and $8,000 to her spouse's Roth IRA for a total of $16,000.
Yannie didn't mention how much of her and her husband's portfolio is in Roth and traditional, tax-deferred accounts, but increasing their Roth balances will provide them with more tax-free income in retirement, which is something I always recommend. Then, if she has more than $16,000 to invest, I'd put it in a taxable brokerage account.
READ ALSO: 10 rules for successful investing you should know
As you approach and enter retirement, focus on building a diversified portfolio, just as recommended for all investors. However, you can adjust your allocation to minimize risk. For example, you can own fewer stocks and more income-producing assets, such as bonds.
If you only own stocks or stock funds, your nest egg will have higher returns but experience higher volatility, which most retirees want to avoid. But if you only own bonds or bond funds, you'll have more stability with lower returns.
Yannie, thanks so much for your questions. If you create a portfolio that combines growth and income to beat inflation, gives you enough income for a long life, and doesn’t exceed your risk tolerance, you’ll set yourself up for a comfortable retirement.
Before we go, here's a quick reminder to subscribe to The Money Stack, my Substack newsletter, when you visit LauraDAdams.com. It's filled with money tips, tools, news, challenges, and things I enjoy! You can subscribe for free or become a paid member with access to live educational events.
That's all for now. I'll talk to you soon. Until then, here's to living a richer life!
Money Girl is a Quick and Dirty Tips podcast, and I want to thank our fantastic team! Steve Riekeberg audio-engineers the show. Holly Hutchings is our director of podcasts, Morgan Christianson is our advertising operations specialist, and Nathaniel Hoopes is our marketing contractor.