If you are a reader of this blog, you are certainly an investor. I often communicate with my readers through my mailing list and I realize that we are all looking for the same things:
#1 We want to invest savings and make money
#2 We seek dividend payouts since it’s a great way to generate a stable income
#3 We are looking for high quality information – not the bogus trading tip of the day
#4 We are concerned about retirement – looking to build and manage our nest egg
We all invest savings because we figured it was one of the best ways of ensuring a paycheck coming each month at retirement. Some of us are lucky and benefit from a super solid pension plan from our employers. For the rest, you’re likely left managing your money and making sure you can retire… one day!
How do you invest for retirement?
How do you invest your money once you retire?
How can you make sure you have enough?
This is your quest for income at retirement. Let’s try to find some answers today!
What Will Be Your Main Income Stream?
The first step for retirement planning is to identify which sources of income will be available at retirement. Here’s a quick list of sources you may have:
Most common retirement income sources:
- Government basic pension. Both Americans and Canadians receive a basic amount from the Government. The amount may vary according to your contributions while you work and your total declared income at retirement.
- Retirement account. Individual accounts that are usually tax sheltered prior to withdrawals. These accounts motivate individuals to save money sheltered from taxes in order to build their nest egg.
- Employer’s sponsored retirement account. Similar to individual accounts but sponsored or administered by your employer. The most generous plans include a “free” contribution from the employer each time the employee contributes. For example, an employer can match up to 5% the employee contributions. A variety of mutual funds are often available within such accounts.
- Defined Contribution Pension Plan. Similar to an employer sponsored retirement account. There are usually more rules concerning withdrawals than employer sponsored retirement accounts (which you can withdraw pretty much when you want but will have to pay taxes).
- Defined Pension Plan. A pension paid by the employer upon your retirement, as opposed to the defined contribution pension plan, the amount of the pension is known in advance. The pension is usually based on a percentage times the number of years worked. The investment side is 100% the employer’s responsibility. We know how it ended for a giant like GM!
Alternative sources of income:
- Sideline. One can continue to work part time while being officially retired. This is why we meet so many Wal-Mart greeters older than our parents. It can be a part time job for a company or being self-employed.
- Rental income. Rental properties are fairly popular among retirees since they generate a steady flow of income. However, you need to deal with tenants and some maintenance is required over time.
- Private company income. You can decide to become a silent partner in a private company and cash in dividends. It is a riskier investment as your money is concentrated in only one business.
- Annuities. This is a contract between a life insurance company and an investor where the company pays the beneficiary on a monthly basis in exchange of a lump sum payment at the beginning of the contract. This is some kind of “homemade” defined pension plan for individual investors.
Will You Have Enough?
As you can see from the above mentioned list, most of your retirement income sources are derived from your investments as an active worker. Unless you want to depend on the Government’s social security to retire, you are pretty much forced to save money on the side and build your own pension plan.
The key question is always “will you have enough?”. What’s worse than running out of money once you have quit your job and lost the opportunity to make money working. Unfortunately, I won’t answer this question in this post. The reason is simple: the magic retirement number is different for everybody. It depends on your lifestyle, life expectation and capacity to generate passive income.
Someone who owns a sizeable investment portfolio can generate important dividends plus interest revenues and therefore might not even have to withdraw from his capital. The same situation can happen if you have built a real estate mini empire bringing in enough rent each month to support your lifestyle.
Unfortunately, this perfect retirement scenario won’t happen for most of us. Therefore, we need to work harder and manage our money carefully.
How Can You Generate Stable Revenues From Your Investments?
Without any surprises, my favorite way to generate stable revenues from my investments is to buy dividend stocks. I believe that if I spend the next 30 years building a strong investment portfolio, my dividend payout will definitely be enough to support my lifestyle at retirement. I can make this happen by using a double digit dividend growth investing strategy.
Still, dividend investing is not perfect. As with any other investment strategies; my portfolio value will go up and down as the market swings. There isn’t much I can do about it. Dividend cuts are also another possibility. We all want to buy dividend growth stocks but it’s not always what happens over time. If the dividend payout is not big enough to support my retiree budget, I will have to gradually sell stocks and cash out my capital. A few bad years on the market and my retirement plan may be at risk.
Other options are not necessarily better. If you decide to go with a safer option with your portfolio, you may turn to certificates of deposit and bonds. The problem is that there are risks with fixed income too. Currently, the interest rate on a bond portfolio is not even high enough to cover inflation. Therefore, you may quickly hit the point where you will need to sell your bonds to live. If interest rises (as was the case in June 2013), your portfolio value will also take a hit. Definitely, bonds are not the safest place to invest your money either.
Real estate is intriguing but also risky. When you think about it, buying a rental property and collecting the checks each month seems like a pretty straightforward way to ensure your retirement plan. Unfortunately, this won’t be easy. You still have to spend time and money managing your property. This includes finding good renters and dealing with the bad ones. Repairs and maintenance costs can also grow significantly if you keep your property over the long haul. Eventually, the roof and windows will have to be changed, this could cost a lot more than your annual trip to Europe planned in your retirement dreams.
In a perfect world, we would all receive a guaranteed monthly pension. If I could paint a perfect picture of a retirement plan, it would definitely include a 100% secured monthly payment. This definitely exists with Gov’t social security but the check is not big enough to truly enjoy retirement, right?
If the Government would offer an enhanced version of their social security that we could buy in order to receive a bigger check each month, I would buy it right away, wouldn’t you? I found such products but it’s not sold by Governments, it’s called an annuity.
What Are Annuities?
An annuity is a contract sold by a Life Insurance Company where the investor makes a lump sum payment in exchange of a defined series of payments. Most of the time, these payments are made monthly and stop upon the beneficiary’s death.
For example, let say you have 100K to invest in order to generate retirement revenues. If you invest it in the market, you may get a 3-4% dividend yield and your capital (the 100K) may be subject to fluctuations. If you buy an annuity, you may receive a monthly payment of $500 which would be the equivalent of making 6% on your investment. The payment will be assured as long as you live and you won’t have to worry about the market swings.
The interest return of an annuity depends on your age and health. Obviously, if you are 80 and buy an annuity, your monthly payment will be higher than someone who buys it at the age of 55. The main downside of a fixed annuity is that you can’t touch your capital once the contract is signed. Therefore, you are assured to receive your monthly payment, but you can’t access your initial investment of 100K.
As any other financial product, there are pros and cons. When included in a retirement plan, the annuity contract could definitely contribute to your retirement base income and reduce your risk.
How Annuities Could Fit In Your Portfolio
Since you can’t get your money back once you invest it in an annuity, I don’t think it’s a good idea to invest the bulk of your nest egg in such product. Annuities should be viewed as a complimentary product to your retirement plan. The security offered by such a contract is quite interesting and ensures you will always receive a base income.
Instead of buying bonds in your portfolio, you could keep your dividend stocks and add a % of your portfolio in an annuity. Depending on your needs it could be anywhere from 5% to 25%. Over 25% seems like a big liquidity risk. Plus, interest rates are not awesome these days so you won’t hit the jackpot with your annuity.
Many Questions Raised About Annuities – Is This a Scam?
You probably have heard about annuities in the past. There are several bad things said about them when they are not sold properly (and with ten thousand expensive options!).
I’ll be honest with you; the world of annuities is bigger than the Pacific Ocean. There are tons of options (called riders) where you can modify your annuity payment, the type of investments and how you can receive your money. I think the best annuity contract is the simplest one: a fixed annuity where you pay a lump sum payment and receive monthly payments.
The other options are usually too pricey for what they provide! There is no scam with annuities but I strongly suggest you meet with more than one life insurance agent before your make your decision!
PSST! If you are looking for more info about annuities, I’ve found an awesome ebook to download for free! click here to read my post about it!
What’s Your Plan to Retire Successfully?
On my side, I’m quite lucky as I benefit from a fully secured defined pension plan. Therefore, my worst case scenario is to retire at the age of 58 with 70% of my income + Gov’t pension + my dividend portfolio. So technically, I shouldn’t have much trouble at retirement. If I didn’t have my employer’s pension plan, I would definitely look for more ways to assure my retirement income.
What’s your retirement plan?