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4 ways to help reduce risk in your retirement plan

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Great news: You’ve got a whole lot of living to do. Americans in their 40s and 50s can now expect to live well into their mid-80s, according to the Social Security Administration. But does the prospect of great longevity have you worried about the cost of living comfortably, giving generously and providing a legacy 20 or 30 years from now? If so, you’re on the right track to planning for a retirement that addresses risk head-on.

What are the most common risks to your retirement strategy?

Once you retire, your financial risks can increase when one or more of these events occurs.

Outliving your savings.

Did you know that two out of three working men and half of women aged 50 and older are underestimating their longevity by at least five years? It can be a costly mistake. So, how long should you plan for? Take your best guess, then see how it compares to the Social Security longevity calculator.

Market volatility shrinks your portfolio.

New retirees in the year after or following the Great Recession of 2008 faced an especially steep stock market downturn when it was their turn to start withdrawing their assets. Though the market is prone to corrections over the long term, you may experience unavoidably bad timing when you need your retirement savings the most.

Inflation rises higher than your investment returns.

As the Consumer Price Index (CPI) rises and falls, so could the buying power of your money. Inflation may rise into the 2030s, according to a recent government report.1 For example, if you spend $10,000 on healthcare this year, and inflation rises 2% annually through 2036, that same expense would climb to $13,459. While different categories of expenses are affected by inflation differently, this example shows the potential effect of a relatively small inflation rate increase.

A short- or long-term illness drains your assets.

A healthy 65-year-old husband and wife retiring now and living into their late 80smay need more than $660,000 for their future health care.

Tax code changes reduce your net retirement income and impact your legacy.

What was once a gift to your heirs may become a tax burden. For example, until the SECURE Act was enacted, IRA beneficiaries could take distributions (and pay taxes on them) throughout their life expectancy. Now they must do it in 10 years.

Sure, this is a concerning list, but have no fear; you can address each of these possible threats with a solid plan to help keep your retirement vision on track. While there’s no such thing as a risk-free investment strategy, you can build a plan that helps you mitigate common investment perils.

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Ways to help minimize the most common retirement portfolio risks

1. Adjust and expand upon your guaranteed income sources as needed.

Social Security and a pension, if you have one, are likely just part of your total retirement strategy. (Pension rules vary according to your employer’s criteria.) Nonetheless, you can take the reins by reviewing your Social Security status and looking into other types of guaranteed income to help prevent outliving your money.

Review your potential Social Security benefits.

Social Securityhas already become a smaller part of the total retirement-income solution, and it's facing its own budget challenges. Unless the government reforms the system, benefits may dip to 79% of the promised payout by 2035, according to the SSA 2020 OASDI Trustees Report. Nonetheless, you can make your SSA benefit work to your advantage.

Visit my SocialSecurity’s Retirement Calculator (sign up required) to get a personalized projection of your potential monthly benefit amount. In addition to your total lifetime income, ask:

Identify your target retirement age

Many pre-retirees have no idea just how much their benefit check can differ based on their retirement age. If, for example, you chose to retire at 62 instead of 70, you could end up with as much as 30% less if you opt for the earlier date, according to the SSA.

How much will a job cost you?

Working while receiving Social Security benefits can impact the amount you receive if you exceed the SSA salary limits.

Here are two examples:

  • Those working and younger than the full retirement age (FRA) are currently limited to $19,560 in income. If income exceeds $19,560 then for every $2 of additional income, above this amount the SSA will deduct $1 from your monthly benefit.
  • If you are at full retirement age and make more than $51,960, the SSA deducts $1 for every $3 you earn above the limit.

Explore the pros and cons of annuities.

Fixed and variable annuities are another potential guaranteed income source to help supplement Social Security.

Fixed annuities can offer a high degree of predictability.

A fixed annuity is a form of an investment. A financial firm pays interest on lump sum payment or premiums you’ve paid over time. A minimum payment promise is typical. Variable conditions include when payouts begin, duration of payouts and the amount of interest you will receive. Since fixed annuities usually invest private and public bonds, they are considered very stable. Critics point to their illiquidity, often high fees and a potential long delay until payouts begin.

Variable annuities provide investment options.

This type of investment contract can offer greater flexibility in several areas. Depending on the contract, you can choose:

  • The contract’s investments.
  • How and when you’ll receive payouts.
  • Lifetime benefits.

Critics cite the potential costs of these and other riders when recommending against a variable annuity contract. Still, depending on the contract and your feature choices, a variable annuity can offer guaranteed income with the upside of greater control over your investment.

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2. Diversify your portfolio with short- and long-term investments.

When you create a portfolio of growth-focused assets to complement your guaranteed income, you’re potentially filling the gap between your guaranteed income and the amount of income you need to live out your retirement vision.

You can opt to balance your growth-income investments between these two categories:

Dedicate a conservative bucket of assets for near-term living expenses.

To help preserve your retirement-plan principal, consider putting three to seven years of income into your bucket of conservative, growth-focused investments to be used for a few years of living expenses should the market experience a downturn. Index funds that invest in stable public and private bonds and blue-chip stocks, such as the Standard & Poor’s 500, can reduce your risk while providing relatively consistent returns. For example, the S&P 500 maintained a 13.6% annual average return between 2010 and 2020 (note that an investment cannot be made directly in an unmanaged index.)

To address the inflation risk, choose investments that can provide growth for your later years.

These mid- to higher-risk investments can provide the potential for growth and late-retirement income based upon your risk profile. Asset classes may include designated mutual funds, residential real estate or even being a ground-floor investor in a startup business venture.

It’s true that the value of these investments may rise and fall significantly. In particular, making a private investment in a startup is, in many ways, more of a loan with the hope of returns on top of its repayment, depending on the terms of the agreement. Your investment could end up being a complete loss if the firm doesn’t meet its income projections or fails entirely. However, this is part of a tradeoff: You’re giving up the security of lower-risk investing in part of your plan in exchange for potentially greater growth over a longer period of time. While diversification can help reduce market risk, it does not eliminate it. Diversification does not assure a profit or protect against loss in a declining market.

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3. Bucket your investments with future tax laws in mind.

There’s good reason to plan for the possibility of high taxes. Here’s why: Right now, many Americans are benefiting from some of the lowest marginal tax brackets since the government instituted the federal income tax in 1913, with the lowest bracket at 10%. At the same time, the SECURE Act raised the age for starting required minimum distributions (RMDs) from qualified tax accounts from 70½ to 72, based on your birth year. This gives you more time to accrue returns.

What’s the wet-blanket part of lower taxes? They’re typically connected with a higher federal deficit. And a way to mitigate government debt is … raising taxes. With the low tax brackets of The Tax Cuts and Jobs Act of 2017 set to expire after Tax Year 2025, current and soon-to-be retirees may want to think about ways to avoid taking large tax hits on their qualified account distributions.

Lowering your taxes can be easier if you can bucket your assets among three categories:

'Tax now' assets.

These investments incur taxes during the year you earn them.

'Tax later' investments.

The IRS lets you make pre-tax contributions to qualified-tax accounts. However, when you start taking distributions from these accounts, the IRS will tax both your principal and your earnings—that’s the bargain you’ve made for the sake of pre-tax investment.

If the tax rate rises during your retirement, your retirement income plan can take a serious hit. That’s why you shouldn’t be keeping all of your retirement investments in this category.

'Tax never' holdings.

Owners of these investments have funded them with after-tax dollars, and the IRS won’t tax distributions from them.

To the degree that you can do it comfortably, a tax-never strategy will do much to relieve your tax bite in retirement.

Learn more about working tax efficiency into your financial plan.

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4. Guard against life's 'what ifs.'

Sometimes the worst-case scenario happens. You or your spouse may suffer from a serious accident or illness, your pension fund may default or one of you may pass away, leaving the other in a less secure financial situation.

Consider and plan for worst-case health care consequences.

Without a plan, the onset of a short- or long-term illness could wipe out your investments. “Gap insurance,” which covers health care costs that Medicare does not, health care savings accounts (HSAs) and long-term medical coverage are ways to prepare for the unexpected.

Manage the 'survivor gap.'

You’ll want to work through the scenarios of either you or your spouse surviving the other. If you passed away before your spouse, could they maintain adequate healthcare, live in your current home, support your church and charities, and manage monthly expenses? The answers to these great questions will come from assessing:

  • Social Security benefits. Whether the spouse with the higher or lower benefit passes away, have you calculated the net loss of household income?
  • Tax filing implications. If you filed jointly, that would change, and so would the surviving spouse’s tax burden.
  • Your life insurance contracts. Does your coverage reflect your current expenses and lifestyle?

Work with a financial advisor on ways to help ensure that either you or your spouse won’t need to worry about their financial well-being during an already stressful time.

Review the potential tax consequences of your wealth transfer plan.

Some recent tax code changes can have a negative impact on passing wealth to your heirs. For example, when you name a beneficiary on an IRA or other qualified tax account, the previous provisions let that person make distributions throughout their life expectancy. However, the SECURE Act, part of the U.S. tax code, now requires most beneficiaries to take distribution of the entire account within 10 years. Such changes can turn a gift into a burden.

You can lessen the potential bite of wealth transfer by putting some alternative tax-efficient strategies to work, such as passing along the cash value of a life insurance contract. Thrivent has wealth transfer tools that can help you run various scenarios while planning your legacy. It can show you the potential tax liabilities of your current wealth-transfer plan, what you may save now and how your heirs can benefit from some strategic alternatives.

Talk with your financial advisor and tax advisor about building a legacy plan that helps shield both you and your heirs from unfavorable tax consequences. While Thrivent does not provide specific legal or tax advice, we can partner with you and your tax professional or attorney.

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How to get started on a risk-minimizing plan.

Remember that concerning list we started out with? Hopefully, you can now see that while financial risks in retirement are real, you can plan to lessen their impact. Work with a financial professional in cooperation with your accountant and attorney to see how you can overcome the challenges we’ve discussed here. You can also use the Thrivent Retirement Income Planning Calculator to get an idea of where you stand before consulting with your team.

A solid plan can provide for your retirement years as you’ve envisioned them, leave your family with a legacy and support the causes that matter most to you. When you plan for key retirement risks, you’re protecting the retirement vision you’ve worked hard to create. To learn more about preparing for the risk in retirement, connect with a Thrivent financial advisor to discuss your options.

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Thrivent financial professionals have general knowledge of the Social Security tenets. For complete details on your situation, contact the Social Security Administration.

Holding an annuity inside a tax-qualified plan does not provide any additional tax benefits.

This information should not be considered investment advice or a recommendation of any particular security, strategy, or product. The concepts in this presentation are intended for educational purposes only.

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