What You Should and Shouldn’t Do With Retirement Savings


  • Nearly every financial plan includes a strategy for retirement.
  • I recommend investing more aggressively if you have a long time horizon and feel comfortable with the risk.
  • Avoid treating your retirement savings like a piggy bank — pretend it doesn’t exist right now.

In most financial plans, individuals establish some type of retirement goal, whether that is to do volunteer work, travel often, spend time with family, or even work part-time. No matter what goal is set, building retirement savings through a consistent investing plan is a prudent way to accomplish it.

There are always more and less effective ways to achieve these goals — here’s how I typically advise my clients.

What you should do: Start taking on more investment risk to obtain higher returns if you have a long time horizon

First off and just to be clear, an individual should never take on more investment risk than exceeds their personal risk tolerance. My suggestion is to make sure a person is not investing too conservatively (and missing out on potentially higher returns), especially when they have many years before even considering retirement. Take the following example.

John and Mary (both are age 35) recently hired Barbara as their financial planner. Specifically, they asked Barbara questions about the appropriateness of the investments in their retirement plan accounts.

During their overall financial-plan review, Barbara completed an investment risk tolerance assessment for the married couple by asking questions related to length of time before retirement, comfort level with market


volatility

and access to other


escalation

outside of their retirement plan accounts. Due to a projected retirement date that is over 30 years from today and the couple being extremely comfortable with market volatility, their assessment showed that they have a very high investment risk tolerance, and an aggressive portfolio is appropriate to use for their retirement plan accounts.

Barbara reviewed the investments in John’s 401(k) account at his employer and Mary’s 403(b) account at her employer. Her analysis showed the couple that they both currently maintain portfolios that have a moderate level of investment risk. Subsequently, Barbara recommended that John and Mary reallocate their investment portfolios to make them more aggressive and explained to them that this action will provide them more opportunities for stronger growth over their long time horizon before retirement.

What you shouldn’t do: Treat your retirement savings as a piggy bank

I encourage people to treat their retirement savings like it is “not even there.” By that, I mean retirement savings should not be viewed as a source of liquidity for emergencies or shorter-term goals.

Establishing an appropriate amount of cash reserves is how someone should address financial emergencies (loss of job, unforeseen medical costs, etc.) and shorter-term goals (eg,


down payment

on a home, vacation, starting a business, etc.). Retirement savings should only be seen as a long-term investment vehicle and accessed when the funds are needed for income in retirement.

Accessing retirement accounts early can have a negative impact on someone’s financial plan in two ways: potential penalties; and losing some compounding benefits over the long-term. Paying a penalty to the IRS is obviously a negative implication in a financial plan, but losing compounding benefits over the long-term might require a little more explanation to understand. Take the following example.

To pursue the home of their dreams, Mark and Jane needed an additional $20,000 of liquidity to have the appropriate down payment for the house they wanted to purchase. Unfortunately, they did not have a financial planner and got unsuitable and bad advice from a family member who told them to access funds from Mark’s 401(k) account that was valued at approximately $300,000.

Retirement Calculator
Use Insider’s calculator to see if you’re on your way to a comfortable retirement by answering a few questions about yourself, your savings, and how long you expect to keep working.

You will have about

$1,725,000

You will need about

$2,940,000

*Need is based on covering 70% of your annual pre-retirement income and a life expectancy of 100 years.

Instead of trying to find another house that was not as expensive, the couple was determined to purchase this home. They took a withdrawal from Mark’s 401(k) account not realizing the financial consequences. Mark will not have this $20,000 to use in retirement, but even further, Mark lost the opportunity for growth of this $20,000 within his portfolio.

Yes, there is still a sizable amount in his 401(k) account after the withdrawal, but using the following assumptions shows the extent of the lost opportunity: $20,000 invested with an annual rate of return of 7% for 20 years could have grown to approximately $77,000! That is a significant amount of money that could have been used for income in retirement.

Mark and Jane should have either found another house to purchase or established a higher amount of cash reserves, which would have provided them more financial flexibility. Using retirement savings should have never been an option.

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