Get With The Plan: October 24, 2010

102410Marty, 58, and Melissa, 53, have very specific questions about their finances. They’d like to retire at age 65, by which time their two children will be done with college. The couple want to turn the focus back on themselves.

“The primary goal is to have enough to retire, with a projected retirement age of 65, and live comfortably,” Marty says. “We anticipate selling this house then, and downsizing.”

They plan to leave the state because of high property taxes, and they want to make sure they have enough life insurance. They also want to accumulate a $50,000 emergency fund to cover expenses should they become unemployed.

The couple, whose names have been changed, have set aside $555,050 in IRAs, $91,717 in 401(k) plans, $69,022 in a brokerage account, $5,850 in mutual funds, $14,216 in checking and $19,430 in savings. They also have $139,800 set aside for college tuition payments.

The Star-Ledger asked Vince Pallitto, a certified financial planner and certified public accountant with Summit Asset Management in Florham Park, to guide the couple in reaching their goals.

“Their monthly expenses seem high, but when we looked at the detail they are paying their children’s car expenses, including car insurance, and an allowance while they are at college,” Pallitto says. “They are also paying an additional $875 per month on their mortgage.”

Pallitto says their monthly outlay — excluding their kids’ expenses and the extra principal payment — is about $10,000, of which $3,000 is attributable to their mortgage, property taxes and insurance. Pallitto assumed when they retire, they’d spend about $8,000 per month with no mortgage.

Pallitto says it’s important to address the couple’s life insurance question first.

They are currently paying for an $850,000 variable universal life insurance policy, or VUL, on Marty’s life, plus an $800,000 VUL policy on Melissa’s life and a $500,000 term policy on Marty’s life. Marty also has coverage worth three times his salary through his employer.

Add it all up and, if Marty was to die first, Melissa would receive nearly $1.8 million, while if Melissa died first, Marty would receive $800,000.

“When they were younger this may have been adequate coverage, but now that their children are in college, their mortgage balance is lower and they have accumulated assets for retirement, they may be overinsured based on their current estate and financial needs,” Pallitto says.

He asked the couple to request an “in force” illustration of their current VUL policies, which explains what would happen if the policy’s cash value was used to pay premiums, and to find out what the paid-up death benefit would be on each policy. Pallitto says if they reduce the death benefit to $500,000 on each policy, they can significantly reduce their monthly life insurance cost and use the monthly savings to purchase long-term care insurance policies.

“If either spouse dies, they have sufficient assets to sustain their lifestyle, but a long-term illness could significantly deplete their assets and adversely affect the healthy spouse’s lifestyle,” Pallitto says. “They could purchase joint long-term care insurance for $400-$500 per month.”

As for retiring at age 65, Pallitto says it’s feasible but they should make a few changes to their retirement assets.

He says assuming the couple needs $8,500 a month (with the cost of long-term care insurance added to their budget), and that Marty would receive $2,300 per month from Social Security at age 65, the couple would need $6,200 per month from their assets for two years. At that time, Melissa will turn 62 and collect her Social Security, which would reduce the amount needed from investments to $5,200 per month.

Pallitto says at age 65, assuming the same savings rate and a 6-percent return, their retirement assets will be $1.2 million. They’d need to draw about 6.25 percent of their retirement assets to pay the bills and supplement Social Security.

“Although that is within an acceptable range for retirement, I like to see my clients need income equal to 4 to 5 percent of their retirement assets,” he says. “Therefore, if they can save more over the next eight years or achieve a 7- or 8-percent yield to get their retirement assets up to the $1.5 million to $1.85 million range, their retirement will be very comfortable and meet their spending needs.”

Pallitto says the couple’s dilemma is common among Baby Boomers: the need to generate a higher return on assets generally means you need more risk or a more aggressive asset allocation. But a more aggressive allocation isn’t usually recommended for those nearing retirement, he says.

He recommends they consider moving their current IRAs into variable annuities with guaranteed income riders.

“The asset allocation in the annuities could be growth-oriented because the guaranteed rider could protect the assets in the event of a downturn,” he says.

Then, they can afford a more conservative balanced allocation in the 401(k)s, which Pallitto says is more aggressive than the couple realize, and could suffer a sharp decline in another market downturn.

As for their emergency fund, Pallitto says the pair’s available cash is close to their desired amount. He says they should not continue paying additional principal on their mortgage, which is at 4⅞ percent, but instead add these funds to their non-qualified savings.