Get With The Plan: September 23, 2012

Neal and Kit, both 51, have a blended family with five children. Only one still has college on the horizon, and that will cost about $6,000 a year for the next three years. After that, it’s retirement the couple is thinking about.

Kit was laid off from a job in 2011, and her new work pays half of what she was earning before.

“Retirement is wishful thinking,” Kit says. “We’d like to be able to work only when we want to and to travel. It would be nice to be a snowbird for a few months out of the year and stay in a warm place. Mainly, we don’t want to worry about finances.”

Neal and Kit, whose names have been changed, have saved $56,000 in an annuity, $18,000 in IRAs, $36,000 in mutual funds, $35,000 in Certificates of Deposit, $38,000 in money markets, $2,500 in savings and $1,500 in checking. Kit also receives a $16,800 a year pension from her ex-husband, which she will continue to receive until his death.

The Star-Ledger asked Brett Danko, a certified financial planner with Main Street Financial Solutions in Pennington, to help Neal and Kit plot out their financial future.

“Kit lost her job a year ago but was able to find another one within six to eight months,” Danko says. “The difficult economy and Kit being out of work for a short time has helped them truly focus on their expenses and while enjoying life, they do not go ‘over the top’ and splurge on things.”

Danko says also in their favor is that they’re in good health and they don’t have any debt — not even a mortgage on their $400,000 home. Their debt-free status helps them keep their expenses low and live within their means, and they’ve been setting aside the pension money each year as long-term savings.

Of the savings the couple has set aside, nearly 33 percent is in cash and Certificates of Deposit. Danko says they need to diversify into more equity exposure, which means taking on more risk.

“This could be done by reallocating their existing portfolio or by more aggressively investing the money they plan to save each year,” he says.

Before speaking with Danko, Kit said she felt she may never be able to retire, and the couple felt they were in a very bad place financially.

Danko explained why she’s very, very wrong.

They stick to a budget and are staying debt-free. They’re saving almost $16,800 a year, and they have a full year of expenses banked for an emergency fund. They also have skilled jobs, which means they will have a much easier time staying employed than others.

Plus, at age 67, they’ll receive about $41,500 a year in Social Security benefits.

“Since Social Security increases with inflation, this number will continue to grow with the rate of inflation,” Danko says. “Between Social Security and her ex-husband’s pension, Kit and Neal will basically be able to live on that money and not yet dip much into their retirement savings or home equity.”

If as they get older they’re concerned about their nest egg, they can always consider using the equity in their home for retirement. Of course they’d have to move somewhere else, but Danko says the smaller costs of a condo would allow them to invest the difference should they ever decide to sell their home.

“More importantly, their yearly expenses associated with the bigger home would go down because they would most likely pay lower property taxes as well as pay less for home maintenance and utility bills,” he says.

To see the couple’s chances of having a successful retirement, Danko ran a Monte Carlo simulation, which takes into account thousands of variables.

“Kit and Neal not only reach all their goals, but could actually retire at age 62,” Danko says. “Considering that Kit and Neal thought they may never retire, this is great news.”

But Danko says some caveats exist for this “happy ending” to occur. He says they must stay disciplined and live within their budget, but they also have to make sure their investments earn a higher rate of return.

“Their investments need to grow at around 5 percent, which sounds high in today’s investment world but over the past 90 years, 5 percent represents a 20 percent stock/80 percent bond and cash portfolio, which is considered a more conservative asset allocation,” Danko says.

The couple say they have a moderate risk tolerance, so he recommends a 50-50 split given their ages and that they have possibly 40 or more years to live, which is a very long time horizon.

To decrease the possibility of negative surprises, Danko says they may want to increase their life insurance. They each have $250,000 of coverage, but they may want to double that with a 10-year term policy.

“Given their good health, this should cost less than $1,000 for the both of them combined per year and they can cancel it at any time,” he says. “After 10 years, they will have no coverage but they will not need it.”

If they retire before age 65, they’ll need to consider what they will do for health care coverage until Medicare kicks in. Even at that time, they should also consider the costs for dental, vision and long-term care coverage because the long-term care coverage is limited.

“They may want to consider some sort of LTC coverage over the next 10 years such as LTC insurance or a life insurance policy with a special LTC rider which pays for LTC expenses,” he says. “Of course, Kit and Neal could self-insure for LTC but they’d run the risk that an extended stay in a nursing home would deplete their retirement assets.”