Financial advice is full of “rules of thumb”. Save 15% of your income, 100 minus your age to calculate your stock/bond percentages, delay Social Security until 70, etc. These recommendations are repeated so frequently that they’ve become accepted as universal truths.
Financial planning isn’t universal.
While conventional advice often provides a reasonable starting point, applying it without considering individual circumstances can lead to decisions that are inefficient, restrictive, or even financially harmful.
A financial advisor’s job is to help their clients walk the optimal path— considering both quantitative and qualitative elements of their client’s lives.
Here are five examples where commonly accepted financial wisdom deserves a closer look.
- Delay Social Security Until Age 70
Delaying Social Security increases your monthly benefit by ~8% annually. For many retirees, maximizing this guaranteed lifetime income makes plenty of sense.
But delaying isn’t always the best decision.
A delayed benefit may not be helpful for individuals with immediate income needs or those with limited access to income replacing assets. For married couples, the interaction between spousal and survivor benefits can further complicate the decision.
Someone with a shorter life expectancy and limited retirement assets may benefit more from claiming early. Conversely, a higher-earning spouse may find delaying more beneficial because of the survivor benefit it could eventually provide.
You can do some back-of-the-napkin math to estimate the age at which the cumulative benefits from delaying Social Security would exceed those received by claiming earlier. This is commonly referred to as the break-even age. However, maximizing lifetime benefits isn’t necessarily everyone’s priority.
For some retirees, having additional guaranteed income earlier in retirement provides the financial flexibility to travel, pursue hobbies, or enjoy experiences they may be less inclined or physically able to pursue later in life. If your break-even age isn’t until your mid-80s, you may find that the value of having that income earlier outweighs the potential benefit of waiting.
The goal shouldn’t automatically be to optimize cumulative lifetime income. It should be to optimize Social Security within your broader retirement plan.
- Pay Off Your Mortgage Before Retirement
Entering retirement without a mortgage can provide significant peace of mind for retirees. Eliminating a large monthly expense reduces required cash flow and can make retirement feel more secure.
But is paying off a 3% mortgage necessarily better than retaining investments that could produce higher long-term returns?
Paying off a mortgage early can mean sacrificing liquidity, reducing retirement contributions, or realizing taxable investment gains.
For someone with a low fixed interest rate, sufficient retirement income, and a disciplined investment strategy, keeping the mortgage may be perfectly reasonable.
Being debt-free is a worthwhile objective for many people, but it may not be the most efficient choice.
- Always Maximize Pretax Retirement Contributions
Reducing today’s taxable income is appealing, particularly for high earners. Traditional 401(k) and IRA contributions can provide meaningful immediate tax benefits.
However, tax deferral is just that— deferral. The taxes aren’t eliminated; they are kicked down the road into retirement.
Retirement distributions may eventually be taxed at higher rates than expected, particularly when required minimum distributions, Social Security benefits, and other income sources overlap. The tax structure is progressive, so only earned dollars above the threshold in each bracket are taxed at that corresponding rate.
However, there are thresholds that, when broken, can impact your financial situation more comprehensively. Taxation on Social Security income, Income Related Monthly Adjustment Amount (IRMAA) for Medicare premiums, Net Investment Income Tax (NIIT), etc.
Roth contributions, despite offering no immediate deduction, may provide greater flexibility in managing taxable income during retirement.
The appropriate balance depends on current and anticipated future tax rates, retirement income sources, and estate planning objectives.
Saving for retirement is important. Deciding how to save can be just as consequential.
- Lump Sum Vs. Pension
A pension lump sum can offer control, flexibility, and the potential to leave remaining assets to beneficiaries. For some retirees, that’s an attractive alternative to receiving monthly payments.
A lump sum also transfers investment risk back to the investor.
A guaranteed monthly pension may provide financial security that would otherwise require a substantial portfolio to replicate. Pension payouts, in some situations, may offer a higher present value (the current worth of a future stream of pension payments) than annuity products with the same features, meaning that you couldn’t purchase that same stream of income with the lump sum offered.
The decision should consider the pension’s implied rate of return, survivor options, inflation protection, and other income sources.
Neither option is inherently superior. The right choice depends on the role that the pension will play in the retirement plan.
- Become More Conservative as You Approach Retirement
Reducing investment risk as retirement approaches is conventional wisdom and makes plenty of sense. You typically want a more reliable range of outcomes with your investments the closer you are to starting withdrawals.
But retirees need to be careful not to get too conservative. With longer life expectancies today, retirement could be a 30 year – or more – affair. Your portfolio still needs growth after retirement to ensure you don’t deplete your assets too quickly.
A retiree with significant guaranteed income, liquidity, and substantial assets may have the financial capacity to maintain meaningful equity exposure. One relying more on portfolio income may need to be more defensive but growth will be crucial to sustaining their funds as long as possible.
Investment risk should reflect financial circumstances, withdrawal rate, and the ability to withstand losses— not simply someone’s age.
The Bottom Line
Rules of thumb are useful because they simplify complicated decisions. Unfortunately, that simplicity can obscure important details.
The best financial advice isn’t necessarily the advice that works for most people. It’s the advice that works for you.
Disclaimer: This information is presented for informational purposes only and does not constitute an offer to sell, or the solicitation of an offer to buy any investment products or investments in general. None of the information herein constitutes an investment recommendation, investment advice or an investment outlook. The opinions and conclusions contained in this report are those of the individual expressing those opinions. This information is non-tailored, non-specific information presented without regard for individual investment preferences or risk parameters. Some investments are not suitable for all investors. All investments entail risk and there can be no assurance that any investment strategy will be successful. This information is based on sources believed to be reliable. Alhambra Investments, Black Arrow Capital, and affiliated persons are not responsible for errors, inaccuracies, or omissions of information.
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