403B, RETIREMENT PLANNING
Capital Value Equivalency – Three Words That Should Scare You
Joseph A. Davis, CDFA®
August 25, 2016
Every week, as clients walk in and out of our office, one statement stands out more than others: “I’m sure glad I have my pension!” Truth is, I am too. Because without it, almost every single one of our clients would not be able to meet their retirement goals.
As the vast majority of our clients are Utah Retirement System participants, we have the fortune of working with a large group of people that benefit from one of the country’s best pension plans. You see, because of this pension, our client’s retirement benefits are “back-end” loaded. Meaning that these highly educated & hardworking individuals have sacrificed high-pay for a rich pension plan.
How rich is that pension? In short, it’s guaranteed income for life. Often spread out over the lives of both spouses. A good example would be this:
Today an educator walked into my office who is planning on retiring after 30 years of service. She is 65 and her 3 highest salaries averaged over 36 months equal $5,417. For a Utah non-contributory employee – this means she will draw a pension of approximately $3,215 per month. When we combine this along with her social security – these two benefits alone make up 83% of her pre-retirement income!
For a typical 65-year-old, this pension payment, in my mind, has a capital value equivalency of approximately $964,500!! In other words, she would have had to accumulate at least this much to create a similar income stream. Frankly, due to their pay structure, most teachers are simply unable to accumulate this kind of capital.
To understand this concept more fully, you must understand the impact withdrawals have on your investment account. I will only lightly review this topic here as it really deserves a much deeper conversation.
Basically, before an individual starts taking distributions from her retirement account – the million-dollar question should be, “How much can I take without running out of money or leaving too much in my account when I die?”
In short, a 2% withdrawal rate is considered “bullet-proof,” 3% could be considered safe, 4% is where most planners start & anything above 5% starts to create short-fall risks. The capital value equivalency mentioned above is based on a 4% withdrawal. If you consider a 2% withdrawal the number shoots up to $1,929,000!!
So what happens when you don’t have a pension? What happens if you do have a pension, but it has been watered-down? What happens when you don’t have a 401k? Or, if you do have a 401k or a 403b but you aren’t saving enough? Are you saving enough? What is your Capital Equivalency Number?
Serious consideration needs to be made as to how you will build your assets to create a future or current income streams. Whether it’s a 401k, 403b, Roth IRAs, real estate or a business – a good financial plan should be created to address this issue.
Throughout the past two and a half months I have continued to ask myself, did we jump off a financial cliff? The answer was no. How did I know? The answer, while somewhat complex, is profoundly simple.
While it’s true that retirement accounts can be used to save for college, there may be negative consequences to doing so. It’s best to talk with a financial professional to determine the appropriate course of action and to make sure you’re on track to meet your goals.
A 401(k) isn’t the only option for retirement, but it’s definitely one of the most attractive. In many cases, it offers free money and is relatively easy to roll over when you change jobs. A financial professional can help you prepare for retirement with a 401(k) that fits your current investment style and stage in life and adapts to changes in career or investment styles.
Qualified plans, such as 401(k), profit sharing, defined benefit pension and money purchase pension plans, have defined benefits or defined contributions. A qualified domestic relations order, or QDRO, is required when dividing qualified plans.
Davis Financial LLC
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Securities offered through Purshe Kaplan Sterling Investments, Member FINRA & SIPC., Headquartered at 80 State Street, Albany, NY 12207. Advisory Services offered through BEAM Wealth Advisors, Inc., a SEC Registered Investment Advisory Firm. BEAM Wealth Advisors, Inc. is a separate entity from Purshe Kaplan Sterling Investments. Joseph Davis, Registered Representative. Tax services provided by Davis Tax & Associates. Advisory services offered by Beam Asset Management. Joseph Davis, Investment Advisor Representative. Davis Financial LLC, Beam Asset Management, Davis Tax & Associates, and Purshe Kaplan Sterling Investments are separate, unaffiliated entities.