Congratulations! As you approach retirement, your investment portfolio has grown to a size that you suspect you’ll be fine to stop working and live the good life. But…. how do you actually generate income from those retirement accounts?  And how should you invest now that you’re so close to retirement?

I use a bucket strategy to talk about investing in retirement.  There are three mental buckets:

1. CASH: This is money you need in the next 1-2 years. It should be held in cash or money market accounts and ready to spend.
2. INCOME: This money you will want to spend in years 3-8. It should be invested in a mix of bonds to keep up with inflation, but not lose much value in a volatile market.
3. GROWTH: This money you’ll want to spend in 8+ years and can be invested in a well diversified portfolio.

How do you decide how much you need in each bucket? Simple: Calculate your expenses for each year and then subtract any income (social security, pension, etc). Total years 1-2 for the first bucket, 3-8 for the next bucket and the rest is for the third bucket.

After all the calculations, you should be left with a mix of cash, stocks and bonds to invest your overall portfolio.

Find out more about Mike at https://www.mortonfinancialadvice.com and connect at https://www.linkedin.com/in/mwsmorton/

In the pandemic we're recording at home. And while the background starts off with some chirping birds, please excuse my dog that got bored halfway through the podcast and started whining.

, and on that note, enjoy the show.

Mike: [00:00:45] doing well today, Matt. Thanks.

And that puts me in mind of retiring. And so you suggested a confusingly titled episode for today. Because. It's bucket strategy. for retirees. Now I want to clarify. a few things right off the bat here, people cause we're about to like either anger. or Lose half of our audience. If we don't get this right, we're not talking about a bucket list.

or kicking the bucket. I assume. What are you talking about? Mike Morton.

But the bucket strategy, not kicking the bucket, not a bucket list, but this is the way that I divvy up a portfolio and think about it mentally for retirees, as they're getting ready to enter that next phase of life. It's confusing, right? I've worked diligently, I've saved and now I've got some money.

I think it's enough to retire. But going from having a steady paycheck to having no paycheck, how do we mentally think about that? And so that's what I would like to describe to your listeners today

starting to think along these lines, but this isn't a small deal. And I can say from my own experience as

my mom, who was.

A lifelong professional. She worked her whole life multiple jobs,

And as she approached retirement, this is a whole mindset shift that I remember she went through and, she's a highly educated, very thoughtful person and it was a big, change for her. , I remember her describing to me.

Maybe I should get an annuity because I need to have an income. I need to get a check. My whole life

I've gotten a check. I've gotten paid. What is life like if that isn't happening? So this is not a small deal. I know from my own personal experience, there are lots of small ways that you can mess this up.

Or you can maybe set yourself up a little bit better. So super useful topic. Now that we've. Clarified that we're not talking about kicking the bucket. So how do you help your clients? Those who are getting ready for retirement to think about the money they've saved and what to do next.

So that is amazing hard work for a long time. So congratulations are always important. Then I think of two things. One, how are we going to actually translate? That money, those investments into a paycheck, whether it's weekly, monthly, yearly, how are we going to get in there and figure out . Where the money's coming from to be able to spend it throughout those retirement years.

So those are the technical and the other is a high level. All right. How do we think about the overall. Portfolio. So that's the one I'm going to start with and that's where the buckets come in. I think of the overall portfolio that you have saved an investment that's ready to fund your retirement in three buckets.

That just needs to be in cash so that we can have that available as we need it. That's the first bucket. One to two years of spending. The next bucket is an intermediate, those next say three to seven years. Okay. So from years three to seven we need some monies available, right? And we know the markets could be volatile within that timeframe.

So we may not want to go in with all kinds of investments in the U S market or international stock market. Those could be down for three or four years, that has happened in the past. So we were pretty stable funds. So maybe some bonds, maybe a mix of bonds in that bucket. So that. It's growing a little bit.

We might have a little bit of inflation, but we know that money is going to be around then finally in the last bucket, anything for five to 10 years plus. That's going to be dollars. We're going to spend five years from now or dollars. We're going to spend 10 years or 20 years from now. Those could be in more volatile investments in the stock market because we know we're not spending those for quite a while.

So that's how I mentally break up a single portfolio into those three buckets. And it helps people really understand, Oh yeah, I need that money for the next one to two years. I know the money's in the medium term, should be pretty stable and then money for further out can be more aggressively invested.

what you do, because it's always struck me that people who are financial advisors go through a tremendous amount of. Training schooling study to understand the technical financial aspects of different investment vehicles and economics and a lot of mathematics.

But a lot of what you do day to day Is actually applied psychology. You're helping people. A friend, a marriage . We should do an episode by the way.

on what do you do? If two spouses have very different financial strategies, that would be awesome.

And what we should do is we should Bring in a couple that doesn't agree on this and, have them go at it.

Matt: [00:07:07] You know what we've solved, the problem that. I do, the financial planning. And I basically just do whatever you tell me. And She just says, yeah, whatever.

you've decided is fine.

We've solved this problem. Although I think if you dug deeper, you could unearth plenty of disagreements there, but it strikes me that a lot of what you do. Really at this phase, it is, as you say, it's a next phase of life and it's a mental change. I wanted to ask about one of the things that , again, I remember advising my mom on is, you've saved your whole life.

You've built up these assets that are really important to you. They reflect your life's work. You are also starting to think a little bit about estate planning, leaving something for your kids and your grandkids. And when people talk about electric vehicles, the big thing in electric vehicles these days is called range anxiety.

Worried that you don't have enough charge to last you until your next charge. It strikes me that there's a lot of anxiety in making this change about what if I don't have enough? How do I pace this out appropriately? How do you do that? How do you deal with your clients? How do you help them through thinking about this?

It strikes me that your bucket construct is super helpful as a first stage, but do you find this, do you find that there's a lot of anxiety, there's a lot of difficulty is the bucket division the way you help people work through that?

No, but it is in the background of their decision-making. So in terms of financial advising, you're exactly right. We use all kinds of tips and strategies and rules and regulations and all kinds of stuff to bring to your life. What's most important how we're going to accomplish those things, but most of the conversations are all on.

What are you interested in accomplishing? And then how are we going to get there? Then advising on the actual strategies for making that happen. So it is a lot of conversations around all these topics, specifically with the retirement. You bring up a good point around getting people comfortable with the range anxiety.

I really liked that. Here's the way that I do that. And it'll tie back to the buckets. We look at expenses over time. And so that's one of the things you really have to have somewhat dialed in. What are your expenses heading into retirement? So I always pull actual expenses for the last few years. What are you actually spending and project that out.

And now we know. What is reasonable for the next few years, and maybe we use inflation beyond that. So you have to know that and be comfortable with, yes, this is what I'm actually going to be spending. And then we have a graph that kind of has that amount every year. Then you have income, maybe you have social security, maybe a pension, maybe you have rental income, whatever it is, and that can offset some of those expenses.

All right. And then we have dialed in income and expenses projected out for the years. We can show that graphically, get the nod of the head from the couple. Oh yeah, that looks pretty reasonable. And then come the buckets. Okay. The next two years we need 50,000 of $50,000. And then the following five years, we need another 250,000, and then the following years is going to be beyond that.

So now you are getting comfortable with. Projecting out in a graph, but at a high level, he each year income expenses and knowing how much you need in each bucket.

And that's a really hard question to deal with in any circumstance, let alone thinking about your finances. So it sounds like in the example you were starting to develop here. You just break the question down. Into all right. Here's your starting amount. Here's the expenses. Here's any other sources of income and that includes social security,

Okay. But let's just start with that. So 50,000 a year, and that's 5% of your portfolio. Now, 5% . Might be a little bit high. For spending overall, but I'll get back to that in a few minutes. All right. So 50,000 on a million, but your social security is going to kick in in five years, you decide, okay, I'm going to wait five years.

There's all kinds of decision-making around that, but just for assumptions in five years, Social security is going to kick in and cover half of that 25,000 per year out of your 50,000 of expenses. So for the next five years, we know we need 50,000 per year. For five years, we need $250,000. Okay. Then after that, for the next five years after social security is kicked in, we only need 25,000 per year because social security is covering the other 25.

So that's 125,000. All right. So in the buckets we've got two years, a hundred thousand in cash. But we need a total of, for 10 years, 375,000. All right. So it's about 40%. So about 40% of your port folio is in bonds and 60% is for beyond 10 years and we can invest that more aggressively.

So that's how we get from the buckets to the overall strategy.

And then you have this medium term bucket that's going to be low risk and you referred two bonds. So what do all of those buckets look like in terms of where you're holding that mix of

We, got the buckets we took , from our expenses, we came with income and expenses that drove how much we need in our buckets for the first couple of years, the following few years and beyond. And that gives us to an overall portfolio strategy of how much to invest in cash and bonds versus stocks.

That's how we get to that maybe 60, 40 portfolio or 50 50, or whatever it is. And that's got an all lineup and look reasonable. Now we're going to sleep, create that paycheck. Now this is going to be different for everybody. Okay, because it all depends on the account types that you have tax deferred, tax-free taxable.

And then how old you are, are you 59 and a half. And so you can withdraw from your IRAs penalty-free then just pay income taxes if it's tax deferred. So it's going to be really unique to your situation, but of course, you've got to have the cash for the next couple of years in an account that you can use it.

So that could be a taxable account, just your savings or checking account, or if you're over 59 and a half, it could be an IRA and withdrawing it. So there's different strategies, how to actually create the paycheck depending on your unique situation.

Mike: [00:15:05] Yeah. So this is a great time to be looking at your tax brackets, especially as you're getting close to retirement. And then especially in retirement, figuring out a tax planning strategy now with taxes. Your accountant and filing taxes are always looking backwards. They're looking at history, what happened last year and filling in the forms.

What we like to do in tax planning is look forward and how can we make the most of where we're headed in terms of a tax strategy? So let's break that down. Say you need that 50,000 a year, and you've got some money in just a checking savings accounts, you've got a hundred thousand dollars.

So you could easily just spend the money from those taxable accounts. Without really having any income, any taxes at all in that case, or you could say you had tax deferred, a 401k account could pull the 50,000 from your 401k and you'd have 50,000 of income and you'll pay taxes on that. Not a tremendous amount because it's only 50,000.

So you have a choice. There should be. She used the money from your taxable account, or should you use the money from your 401k account? So that's where tax planning and tax strategies are really useful. There's no one size fits all in this. It's just going to be your situation, trying to figure out how you can save the most in taxes over time.

Do you find yourself counseling your clients around? Look, you've got to, change your lifestyle a little bit. You've got to reduce the expense side. Is that a situation you find yourself in

So that's fine on a year to year basis to wing it because you sorta know how much money you have and your savings are fitting into your budget, you kind sense of, yeah, we can afford this, but when you're projecting out five, 10, 30 years of retirement, That's where the mind can play tricks on you.

And it's very hard to know, and that's why a lot of retirees come into financial planning or get some advice, because it's hard to break and you want to be really sure. You only have one chance at this if you quit your job. And so you want to make sure that you have enough. So one rule of thumb to start for people that are trying to think about this is what we call the 4% rule.

All right. And the 4% rule is just a rule of thumb. I don't want to put too much weight behind it, but it's just a good starting point. And it means that you can spend 4% of your portfolio within a year. And that should sustain you for about 30 years. There's a lot of research done around this. So if you had a $1 million portfolio, that's about $40,000 that you could withdraw from that portfolio and be able to spend that.

It goes up with inflation. So there's all kinds of statistics around it, but it's a good starting point take whatever you want to spend per year, multiply it by 25. And that should be about a portfolio that you would need in retirement.

That's about the right level to make sure you have enough for third years.

Matt: [00:18:52] That

It's just saying withdrawing from that million dollar portfolio, maybe 40,000 a year is reasonable. Now there's other tax strategies that, boost that number. And if you live longer, it might be less all these kinds of other things, but it's a good starting point.

Mike: [00:19:28] Yeah. The one thing I want to mention, I said earlier you could take the 50,000 per year from your taxable account, or you could take it from your tax deferred and have 50,000 of income. And you just have to figure out which is a better tax strategy for you. What's mostly going to be a great strategy is if you are in the years before your required minimum distributions at age 72, so you don't have to take it from your 401k or your traditional IRAs.

And if you have money. And just checking savings accounts that you can spend, you can do Roth conversions. So from the tax deferred for your 401k or your traditional IRAs, Over to a Roth IRA convert the 50,000. So spend your 50,000 from your taxable, just for your expenses for that year convert 50,000 from the traditional IRA to a Roth IRA, you pay taxes on 50,000 of income.

That's how it works. But now that 50,000 is sitting in a tax-free account forever with no RMDs. You can do that every year. For a number of years, if you're retired before those RMDs and those systematic Roth conversions are typically a great strategy.

Mike: [00:20:46] yes. And this is where you'd want to hire somebody just to go through that tax planning. You could just do it one time, but just to know for these next 10 years, how I'm going to do these systematic conversions can save you tens of thousands or hundreds of thousands of dollars. It's amazing.

Mike: [00:21:14] Thanks for joining us on financial planning for entrepreneurs. If you like, what you heard, please subscribe to and rate the podcast on Apple iTunes, Google play Spotify, or wherever you get your podcasts. You can connect with me on linkedin or mortonfinancialadvice.com. I'd love to get your feedback. If you have a comment or question, please email me at financialplanningpod@gmail.com. Until next time thanks for tuning in