In football, the red zone refers to the last 20 yards an offense must move the ball to score a touchdown. If applied to retirement, this concept indicates the period in which retirement is in the foreseeable future. If you are within 10 years of retiring—in the red zone—you should employ these three tactics to ensure financial stability: develop a budget, review asset allocation, and design a withdrawal strategy.
DEVELOP A BUDGET
It may seem overly simplistic, but budgeting can make or break a retirement plan. Many believe a budget is merely an awareness of what you are spending; however, it is far more important. A careful budget ensures that you live within your means and helps you to use every dollar earned with strategic purpose. To accomplish this, you need a written and managed budget, not just a mental tally of expenditures.
To begin, make a list of your lifestyle needs, including necessities such as meals, mortgage, utilities, and insurance. This list should also include your savings contributions.
How much you need to save today depends on how much you expect to spend during retirement. To project your future expenses, create budgets based on various post-retirement factors such as the location and size of your home; hobbies; frequency and extravagance of vacations; and other lifestyle expectations. These exercises provide a broader view of how effective a retirement savings plan can be based on lifestyle decisions. It may be helpful to model multiple aggressive and conservative scenarios.
A common mistake made by many investors during this exercise is assuming substantial investment returns to justify expensive lifestyle choices. Expecting massive returns on minimal savings is dangerous to a retirement plan. You should consult with an advisor to determine a reasonable expected return based on historical performance, portfolio components, and other factors.
REVIEW ASSET ALLOCATION
Asset allocation encompasses the types of investments within a portfolio and their underlying industries, risk, and level of market correlation. One of the most important strategies for proper asset allocation is diversification, which is the process of varying the allocation of value in a portfolio among different sectors, investment types, and risks to reduce each investment’s correlation with the others. This will create a buffer against significant swings that could wipe out an entire portfolio. Proper diversification is one of the most effective strategies for mitigating losses.
To understand the importance of diversification, remember that history tends to repeat itself, and, in the past, we have seen how one unfortunate outcome resulted in a complete loss of a lifetime of savings. Remember Enron in the early 2000s? According to the New York Times, the Enron 401(k) plan, which was over-weighted in Enron shares, lost more than $1 billion in value in 2001 when the company went bankrupt; shares of Enron stock fell 94%.1 Just last year, employees heavily invested in United Airlines, Marathon Oil, or Occidental Petroleum experienced life-altering changes to their net worth. Each company lost more than 50% of its value in the prior calendar year.
Risk tolerance describes an investor’s ability to withstand such volatility in investment performance, both mentally and financially. An investor with a high-risk tolerance may be young with decades of expected income, who is relatively unbothered by large swings in investment values. A more conservative investor may be one who has fewer working years to replenish investment losses and becomes stressed at the idea of volatile investment swings.
As you approach your retirement years, you need to reallocate your assets into increasingly conservative investments to limit their exposure to loss. Additionally, you should properly limit downside risk, potentially through fixed income and alternative investments.
The idea of reallocating to more conservative assets can be troubling to those who are focused on maximizing returns, because conservative investments tend to have limited upside potential. However, this move is often more beneficial than seeking higher returns when in the red zone of retirement because of the sequence of returns risk. This term describes the risk that the timing of your liquidation and withdrawal from a retirement account will coincide with a downturn in the market. If it does, it effectively reduces the overall potential performance of the entire portfolio because you will need to liquidate a higher number of shares to reach your expected income, leaving fewer shares in the portfolio to grow.
DESIGN A WITHDRAWAL STRATEGY
While your primary financial focus is to accumulate funds for retirement, how you choose to withdraw those funds is equally important to your financial health in retirement.
A fundamental pitfall in static retirement plans is setting a fixed withdrawal rate over a retirement period, which, for many physicians, is likely to last more than 20 years. During that time, investment yields, tax rates, and personal spending habits will vary widely. Because of these changing variables, it is essential that flexibility be built into retirement planning, both in initial models (high, middle, low) and when reviewing the plan each year (or more frequently). Having flexible planning models and periodically adjusting them based on real-time results will allow you to follow a model that can endure throughout your retirement, regardless of how many years, or decades, that retirement may be.
No one knows what tax rates will be upon retirement. This does not mean you should ignore tax planning; instead, you must account for the potential costs of taxes and design a strategy to minimize them. Have a plan that considers which withdrawals will trigger ordinary income taxes, which will incur capital gains, and which will realize no tax.
Lastly, delaying distributions from your assets will have the greatest impact on your retirement success, at least financially. You may have the option of easing into retirement and exploring varying roles within a practice—perhaps transitioning to a consultant role and forgoing surgeries, for example. This can help you generate a supplemental income for several years, thus moderating the stress on your portfolio by reducing the rate of withdrawal.
Financial success or failure in retirement is generally determined in the first years of retirement. Transitioning into retirement gradually without a sudden loss of income can increase the odds of success.
CONCLUSION
For most retina specialists, a comfortable retirement is the reward for decades of hard work. Do not let the absence of planning in the retirement red zone hinder this goal. Implementing the three strategies discussed here is a good start, but never underestimate the value of working with an experienced advisor in the field who can analyze your individual portfolio and provide recommendations specific to your situation.
1. New York Times. Employee’s retirement plan is a victim as Enron tumbles. November 22, 2001. Accessed September 29, 2021. www.nytimes.com/2001/11/22/business/employees-retirement-plan-is-a-victim-as-enron-tumbles.html
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This article contains general information that is not suitable for everyone. The information contained herein should not be construed as personalized legal or tax advice, or as a recommendation of any particular security or strategy. There is no guarantee that the views and opinions expressed in this article will be appropriate for your particular circumstances. Tax law changes frequently, and, accordingly, information presented herein is subject to change without notice. You should seek professional tax and legal advice before implementing any strategy discussed herein.
