How to Conduct a Retirement Plan Review

Financial independence is a wonderful goal.  Imagine telling a client they did not need to work until age 65 and they could retire early if they chose!  This type of success does not happen overnight unless you win the lottery.  It takes disciplined investment and sound guidance from a good financial advisor.  Frequent retirement plan reviews are an important component.

Retirement plan reviews – Isn’t that part of the annual performance review I conduct for each client?  It could be, but that is not generally a good idea.  Why?  Because when you review page after page of numbers, the client’s eyes tend to glaze over.  It is better to conduct a few reviews during the year, some with a different focus.

The retirement plan review should be supported by the technology provided by your firm on your desktop computer.  It should look at two major components:

  • Growth of the client’s assets before retirement.  Your client has an asset allocation.  They are adding money on an agreed schedule.
  • Dispersal of their assets once retirement starts.  The client has stopped collecting a paycheck and needs to support themselves from retirement income sources like Social Security and income from their retirement assets at your firm.

This type of analysis can run several types of projections.  You have heard the old saying about computers, “garbage in, garbage out.”  This means you need to input realistic assumptions to get meaningful projections.  This will include factors like inflation going forward, growth of different classes of assets, anticipated expenses and the cost of health care.  Taxation rates are important too.

Growth of the Client’s Assets

Let us assume you have all your client’s retirement assets in house.  If not, you should be able to include “assets held away.”  You will also need to know about their 401(k) and any IRA assets, possibly orphaned that are not in house.  What will the client be contributing to their 401(k)?  Presumably they are making the maximum allowed contribution.  How much will their employer match?  Is the client contributing annually to their IRA?  How much is the client investing annually outside of their tax deferred accounts?

Based on the asset allocation and historical rates of return of different asset classes, you will project how much they should have accumulated in assets when they reach their desired retirement age.  You can also run a couple of other projections representing best and worst case scenarios.

Dispersal of the Clients Assets in Retirement

The client’s invested assets should continue growing while they are taking withdrawals in retirement.  This is where the projections of inflation on their living expenses and possibly different inflation for health care costs enter the picture.

  • How much income will the client need in retirement?  80% of your pre-retirement income is considered an industry benchmark.1  Another approach gives the estimate at 75%.2
  • How much income is coming in from outside sources?  The obvious sources are Social Security and defined benefit pension plans.  If the client owns annuities, that is a potential income stream too.
  • Where do hard assets fit in?  Your client owns their home.  They might own a vacation home and rental property.  Will they hold these assets forever?  Do they intend to sell them?  Rent them out?  Sales of property can bring in additional cash that can generate additional retirement income later.

You will run a few scenarios, starting with one showing the most likely expected outcome.  This is probably based on historic rates of return and inflation.  There should be another best and worst case analysis.  These will need to be explained.

The first analysis you prepared should project their retirement to a ripe old age.  Age 100 sounds pretty good.  In the US, the average life expectancy is about 76.4 years.3  Women tend to live longer. No one wants to be told they might be dead by their mid 70’s.  Age 100 sounds better.  As an FYI, about one in 5,000 people live to that age.4

The analysis should show either when their money runs out or how much they will have left in their estate at age 100.  An interesting number is the estimate of their retirement income at that time, because prices have slowly been creeping up.  The best and worst case scenarios give them a couple of extremes to consider.

What Next?

If your client’s future picture looks fine, that is great news.  Ideally it looks fine under the worst case scenario too.

If it looks like your client runs out of money early in retirement, hopefully you and they have time to address the issue together.  Can they reduce their expected retirement expenditures?  Can they work longer before retiring?  Can they save more between now and their retirement date?  Do they have a good asset allocation in place, consistent with the model for their risk profile?

If it looks like the client will have more money than they will need, that is a happier conversation.  They might choose to up their lifestyle, spending more in retirement.  They might also play the “financial independence card” and choose to retire earlier.  You would run those numbers for them too.

You are able to help your client prepare for retirement and track their progress along the way.  That is a big benefit to bring into their live.

Related: What To Talk About in Annual Reviews,commuting%20and%20retirement%2Dplan%20contributions.