Get With The Plan: June 5, 2011

Frankie made it through the recession with a high-paying job that will give him a big pension when he retires. He and Lynne, both 49, are already thinking about leaving the working world.

“My wife and I would like to retire when I turn 56, at which time I would have 35 years at my company,” Frankie says. “Our plan is to sell our house in New Jersey and the profit would go toward paying off the mortgage on our retirement home.”

Frankie and Lynne, whose names have been changed, have saved $703,500 in Frankie’s 401(k), $5,700 in IRAs, $20,300 in a brokerage account, $57,000 in a money market, $21,000 in savings and $6,300 in checking.

The Star-Ledger asked Brian Kazanchy, a certified financial planner with RegentAtlantic Capital in Morristown, to help the couple determine if their early retirement plan is feasible.

“Frankie and Lynne live within their means and have done a very nice job of planning for retirement by investing funds in Frankie’s 401(k) and through the excellent defined benefit pension provided by his employer,” Kazanchy says. “They have also built substantial home equity in their residences.”

Kazanchy ran the numbers on several scenarios to see how the couple would fare.

The first scenario assumed Frankie would retire at age 56 with a spending need of $75,000 per year after taxes. These expenses would rise at an inflation rate of 3 percent per year. The scenario assumes they pay an additional $30,000 per year toward the retirement home mortgage so the loan is paid off by retirement in 2018, at which time they’d sell the New Jersey home. Frankie would also continue to max out his 401(k) and, at retirement, would roll the lump sum value of his pension — approximately $1.5 million — to an IRA.

This scenario found that Frankie and Lynne would be able to retire with ease, Kazanchy says, with a 99 percent chance they would not run out of assets at age 90. The positive outlook depends on three items: continued 401(k) plan savings, the pension benefit and the couple’s modest spending level. Should any of those factors change, so would the couple’s success level.

The second scenario used the same assumptions but included the couple buying a $500,000 vacation home in 2018. These results were also favorable, with a 95 percent chance they’d still have assets at age 90.

The third scenario assumed the couple spends more: $100,000 per year after taxes when they retire. This spending boost would change their chances of success considerably.

“One of the primary drivers of Frankie and Lynne’s ability to meet all of their retirement goals is to manage their budget throughout retirement,” Kazanchy says. “By increasing their after-tax spending level to $100,000 per year, we project that there is a 25 percent chance they run out of liquid assets before age 90 based on a 30 percent fixed income and 70 percent equity portfolio.”

If spending levels were to rise to this level, maintaining a moderately aggressive portfolio would improve the chances of having assets at age 90, he says. A more conservative portfolio would be unlikely to generate the growth necessary to keep up with spending needs.

One soft spot in their plan is risk management.

Life insurance is used to replace income that is needed to ensure financial independence. Frankie is the only income provider for the couple, and he has $1.2 million of life insurance coverage through his job. That sounds like a lot, but it may not be enough to cover Lynne should something happen to Frankie in the next seven years before retirement.

“Overall, I recommend that Frankie increase his coverage to $2 million,” Kazanchy says. “This can likely be done by increasing coverage with his employer; however, he should be cognizant of the costs. A 5- to 10-year-term insurance policy could potentially be a less expensive option.”

Lynne’s $500,000 life insurance is sufficient, Kazanchy says.

Given the couple’s net worth, they should make sure to have an umbrella liability insurance policy worth $3 million to $5 million to protect against unforeseen occurrences, he says.

Frankie and Lynne are taking more risk than necessary with their investment portfolio. A moderately aggressive portfolio should work for their needs, rather than their current aggressive allocation of 90 percent equities.

“As they near retirement, they should continue to monitor their personal risk tolerance as well as their portfolio’s volatility on their ability to meet their financial goals and objectives,” he says.

A 70 percent equity and 30 percent fixed income allocation should do the trick.

“A lot is riding on Frankie’s ability to maintain his income and benefits over the next seven years,” Kazanchy says. “Any change in those variables would cause a need to update their plan.”