Do you use rules of thumb to make decisions about how you will handle your money and save for the future? If so, do you know which ones you should ignore and which ones you should explore? Rules of thumb can be a quick and easy way to have a starting point for looking at your finances, but they should be used with caution. Some are simply outdated and others may not even apply to you or even worse, they could sabotage viable financial plans for retirement. From buying in the dips to the 80% rule, financial professionals Joe Anderson and Alan Clopine discuss the rule of thumb that you should ignore and which ones you should explore.
Important Points:
(01:10) – Where do you get your financial advice
(02:40) – You need $1,000,000 to retire
(04:56) – 80% Spending Rule
(06:25) – Save 10% of Your Income for Shortfall
(09:44) – Age Minus 100 to determine percent of stocks in portfolio
(11:47) – Buy when the stock market dips
(14:00) – Rule of 25x: Determine how much money you need saved for retirement
(15:27) – 4% Rule: Determine how much money you need saved for retirement
(17:50) – Rule of 72: Divide rate of return by 72 to determine when lump sum doubles
(20:00) – Joe Anderson’s Rules of Thumb
(21:10) – Ask the Experts
(23:29) – Pure Takeaway
- Know Rules of Thumb to Ignore and Explore
- Understand Financial Needs In Retirement
- Get a Personalized Financial Plan
- Control What You Can Control
Transcript:
Joe: Hey, there’s rules of thumb in just about any activity that we do in life. But do you use a rule of thumb for your retirement? There’s rules of thumb that you should explore, but there’s probably more rules of thumb that you absolutely should ignore. Stick around and we’ll tell you which is which. Welcome everyone, show’s called Your Money, Your Wealth®. Joe Anderson here, CERTIFIED FINANCIAL PLANNER™, President of Pure Financial Advisors, and of course, with my partner, the big man, Big Al Clopine.
Al: How are you doing today, Joe?
Joe: Thumbs up, Al. Thumbs up. Doing quite well. Where are you getting your financial advice is what I have to ask you. If you googled retirement planning, you would spend your entire retirement on the internet. It’s very difficult to decipher which is right, which is wrong. What is applicable to you or maybe to your neighbor? That’s today’s financial focus. 30% are Googling their financial advice. Googling financial advice. We got 22% get professional assistance. That’s all right. How about your parents? You call them mom and dad. That’s what Big Al does. “Mom, dad! Help me out! What’s a Roth IRA?” Come on, folks. Well, I am a financial professional. Friends, peers, TV magazines. I don’t know. Let’s get it out. It should be your money, your wealth. That should be the number one thing. Breaking things down, let’s find the answers. Let’s get the true answers to your financial questions. Let’s bring in the big man. Big Al Clopine.
Al: So rules of thumb. Which ones should you ignore, which should you explore? That’s what we’re going to get into today because you hear so much. And we just we just talked about this in terms of how people are getting their information. Probably a third of the people out there are getting most of their information from Google or internet searches or just from reading magazines, whatever it may be. And you do get these rules of thumb and you really don’t know whether they apply to you or whether they should apply to, or not. So that’s what we’re going to talk about today. We’re going to go through the rules of thumb and see which are things to consider. So, Joe, I think when you think about rules of thumb, one of the first ones that I hear often is you need $1 million to retire.
Joe: I think when it comes to financial planning, rules of thumb are… Some of them are absolutely terrible. But for the most part, it gives people at least focused and thinking about their finances. So $1 million. Let’s break this thing down. Let’s say you heard that. You’re at a coffee party–or a cocktail party. Al goes to coffee parties, right? I go to the cocktail party. We’re hanging out. And then you hear, “Yeah, you need $1 million to retire.” OK. And then you’re thinking, “Man, I only have $100,000. There’s no way I’m going to get to $1 million.” But at least it’s a goal to get you there. But if you look at the income that $1 million produces, it’s not as much as you might think. Using the good old 4% rule, $1 million is $40,000. If I’m living off $100,000, you need $2.5 million.
Al: So I think that the better way to think about this is to look at your own situation. So what that means is take a look at what your spending is or what your desired spending is in retirement, and let’s say it’s $100,000, for example. And then you look at your fixed income like Social Security. Let’s just say it’s $40,000. So I want to spend $100,000. I got $40,000 coming in. I need $60,000. That’s my shortfall. So now you can look at the 4% rule, and now you need about $1.5 million. That would be a better way to think about this. Now, $1 million is a good goal because most people are nowhere near that. But it’s not necessarily the right answer. Some people need a lot more. Some people, a lot less.
Joe: Right, you could have a pension that’s paying 95% of your household living expenses. So maybe you only need $100,000 saved. Nowhere near $1 million. So you’ve got to break things down, specifically. What assets do you already have accumulated? What are you spending on a monthly basis? And what other fixed income sources that you have? That’s the math that you have to look at. Al, let’s look at another quick rule of thumb here. You’re going to spend 80% of what you’re spending now in retirement.
Al: I bet you maybe that’s true for 1 out of 100, just statistically. But it’s all over the place. You may spend the same amount, you may spend less, you may spend more. One of the things that we see right off the bat for people that retire, that have saved money and that can travel more or spend more time with their hobbies, is they actually spend more. Because Joe, it’s like every day is Saturday. And we tend to spend more when we’re not working.
Joe: For people that have saved money, we see that there’s a little bit of spike of spending just because you have more time. When you have more time, what do you do? You find ways to spend money. But absolutely a lot of you will spend significantly less because you don’t have to buy suits. You’re not going to pay certain taxes. Your tax rate might even be lower. FICA tax, for instance. But then you have medical costs that’s going to outweigh that. So there’s things that you have to look at, but don’t bet your overall retirement strategy of thinking that you’re going to spend 80%, because it’s just not true.
Al: Yeah, I think a better approach is to look at what you’re spending right now. And then if there’s things that you can cut out like, commuting to and from work. Well, maybe there’s a little savings there. Maybe you don’t have to buy the professional clothes. So there could be some savings, but then maybe you spend more on other things. So you just have to do a little bit of analysis of your own situation and what you want to do, to figure out what it is. 80% is maybe better than nothing, but it could be totally wrong, too. So I would want to do a little bit more analysis.
Joe: Absolutely. This is your retirement. This is the second phase of your life. You want to probably get this dialed in a little bit. Here’s another one. How about save 10%of your income?
Andy: It’s a good goal for a lot of people, but what if you didn’t save anything for 35 years? And then the last year, “OK, I’m going to save 10%.”
Joe: Yeah, “I read this magazine, it said save 10%. I’m 64. I want to retire at 66, I have $0 saved.”
Al: It’s not going to work. I think actually a better goal is probably saving 15% or 20%, but it depends upon how many years you’re saving it. And in some cases, people are low salaries for a while and then they all of a sudden make a lot more. So it’s hard to say something like “this is the exact rule of thumb that you want to follow.”
Joe: Right, if you’re start saving with your first job, which we all should start saving, but who does that? Absolutely no one. But maybe they save like 3% of their salary and they’re good.
Al: It’s better than nothing.
Joe: It’s better than nothing. Hey, guess what? We got a lot more rules of thumb to ignore and then to explore. But how about this? Why don’t you go to yourmoneyyourwealth.com and click on our special offer this week? It’s a DIY retirement guide. A lot of you like to do this stuff on your own. Don’t take rules of thumb. Figure it out yourself. This guide will walk you through exactly the steps that you need to take to have a successful retirement. It’s our gift to you. Go to yourmoneyyourwealth.com, click on that special offer. It’s a DIY retirement guide. We got to take a break. Show is called Your Money, Your Wealth®.
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Joe: Hey, welcome back to the program. It’s called Your Money, Your Wealth®. Joe Anderson, Big Al, talking retirement, talking rules of thumb, some to explore and some probably just to ignore. But don’t ignore this. It’s our special offer this week. It’s our DIY retirement guide. Go to yourmoneyyourwealth.com, click on the Special Guide. You can download it in the comfort of your own home. You do your retirement planning the right way with our DIY retirement guide. Go to yourmoneyyourwealth.com, click on the special offer. We got more rules of thumb to go into. But before we do that, let’s see if this is a good idea.
Al: “You should put down 20% when you buy a house.” Is that a good idea, Mr. Anderson?
Joe: It’s not a bad one, Alan.
Al: Yeah, it’s a great idea. It’s very hard to do though.
Joe: Sure. Especially in Southern California.
Al: Yeah, Southern California. I think San Diego real estate prices, the average price is over $700,000. So 20% is $140,000. So do you have $140,000 to put down? If you do, great because you’ll get a better loan, but I wouldn’t necessarily not buy a house if you don’t have the $140,000 or whatever you need. Because real estate, in many areas of the country, including Southern California, it just keeps going up and up. It’s not nearly a straight line, but it is a good idea to own real estate and get into it any way that you can.
Joe: I think you have to have a sensible plan when you go into this. So, of course, 20%, 25%, pay cash. But interest rates are relatively low, almost at all time lows. So it would be a good use to have some, if you use it responsibly. Let’s get into more rules of thumb.
Al: One you hear all the time is you should take your age and subtract it from 100. So, let’s say you’re 50 years old, you take 100 minus 50, so you should then have 50% in the stock market and 50% in safe investments. Joe, I’m going to say this is one of the worst rules of thumb I think I’ve ever seen.
Joe: In my opinion, it’s the stupidest thing ever. This is from insurance salespeople. They came up with this to say, “you’re in your thirties. You need 30% fixed income, 70% in the market. In this 30%, I’m going to sell you a fixed annuity.” It was just kind of a sales ploy. You have to take a look at what target rate of return do you need to generate? I have no idea, if you’re in your 50s and should be at 50/50? Maybe you should have 20% equities and the rest in fixed income. It’s all dependent on everything else in your life. What is your appetite for risk? What target rate of return do you need to generate? What is the income demand for the portfolio? What’s your tax bracket? And so on and so forth.
Al: Yeah, and now people are living longer. I guess it was the insurance industry, as you said, Joe. So now it’s like, “Well, let’s take 120. Let’s take 120 minus your age. Maybe that’s the number.” And none of these things really apply because every person’s situation is different. We know people in their 80s that should have 100% the stock market because it’s all for their grandchildren. And so it’s different. So for them, you take one hundred minus their age, 20% only in the stock market makes no sense whatsoever.
Joe: But here’s the problem with our industry, Al. It’s boring. It’s complicated. People don’t want to do the research. And then they look and say, “Oh, I heard this: taking my age minus 100 and call it good,” or whatever. And so if you’re in your 40s, 60/40 split, I don’t know. I’m in my 40s. I don’t have a 60/40 split. I have 100% stock.
Al: It’s because you forgot the rule.
Joe: I did. I need to go back. I’m a CERTIFIED FINANCIAL PLANNER™. I should scrap that schooling and just do this. We’re good. All right, I digress. Here’s another good one, Alan. Let’s do this. Buy on the dips. Are you buying on the dips?
Al: No, I don’t do that. So the idea is every time the stock market dips a bit, you buy some more. And maybe if you hit it just right, maybe that’s… I think a better approach is to just stay invested. And as the market dips, then take a little bit more of your safe money and buy a little more stocks at that point. So maybe in a sense, you are buying on the dips. But here’s the problem, Joe. I think people hear this and they go, “OK, I’m not going to invest in the stock market till it dips”, and then we have a 3 year _bull run_ and they miss the whole thing.
Joe: I understand the logic is that you want to buy low and you sell high. So you buy on the dips, which is low. But that’s more of a timing mechanism. The market is all over the place. And then when you see a dip, you buy more, you sell out. I mean, what is your overall strategy? Do you have a buying strategy? Do you have a sell strategy? And what does that mean? What percentage does the market have to move before you react? A lot of this is proven to not necessarily work over the long term, especially for the average investor. If you have a Ph.D. and you can spend every second of the market’s open, then sure. I’m sure there’s people that can do this. But the average Your Money, Your Wealth® viewer probably can’t. Including the people that host this show. Because if I look at, well, maybe I start here. Oh, is this a dip? So do I got to buy more? But then it’s up here, and then do I sell on the dip or am I buying on the dip? What am I dipping on? So if I’m buying and then I’m selling, then I buy and sell… Then I ride that thing all the way down. I don’t know, is that a good strategy? Of course not. So if you’re buying and selling, some people are saying, “Well, look at this thing, it’s a straight line down. I should just sell here and then buy here.” Well, yeah.
Al: And if you knew that, you’d be great.
Joe: That is the goal. But it’s impossible. We don’t have a crystal ball.
Al: So Joe, I want to talk about a rule of thumb that we do like. So this is a good one. It’s the rule of 25. In other words, you take your desired retirement spending after the fixed income. So my example, you want to spend $100,000, you got Social Security of $40,000, so you need $60,000 from your investments. So $60,000, multiply that by 25 and that’s about what you should have saved. That’s $1.5 million. By the way, for you math geniuses, that’s the corollary or the reciprocal of the 4% rule. And that actually is a decent rule of thumb. And it’s not perfect, it’s not going to work for everybody, but it at least gives you an idea.
Joe: This $40,000 is what I want to spend. That’s my shortfall. You multiply that by 25. Now here’s that $1 million again. So that’s the number that I would need to provide $40,000 of income. So you just have to do a little bit of homework. What are you spending? What do you have? What are your fixed income sources? And so on. Multiply it real quickly by 25. And then you can figure out exactly what your nest egg is. Yes, I think this is a great rule of thumb as you’re looking to accumulate. But then once you start taking money from the portfolio, you don’t necessarily want to take out 4% each year. Some years are just going to be higher and lower. So it does have its faults.
Al: It does, depending upon what the market does. But at least, you’re right, it gives you an idea how much you should save, and it can be a moving target depending upon what your desired spending is. But at least you have an idea.
Joe: So the 4% rule. So the multiply 25/4% rule, is kind of the same thing.
Al: It’s the same thing. It’s the reciprocal.
Joe: The same thing. Hey, you know, what’s not the same thing? It’s our DIY retirement guide. Go to yourmoneyyourwealth.com, click on our special offer. I know we’re throwing a lot of things out to you today. Good rules, bad rules, things to ignore, things to explore. Explore our Do It Yourself retirement guide at yourmoneyyourwealth.com. It’s a free guide. It’s a gift to you.
Get your retirement plan straight and on the narrow. Yourmoneyyourwealth.com, click on that special offer. We got to take another break.
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Joe: Hey, welcome back, folks. Show’s called Your Money, Your Wealth®. Joe Anderson, Big Al, talking about the rules of thumb in regards to your finances. Things to explore and things to ignore. Go to our website, yourmoneyyourwealth.com, click on our special offer. This week it’s our DIY retirement guide, figuring out what you need to do to have a successful retirement by doing it yourself. Go to our website at yourmoneyyourwealth.com, click on the special offer and it’s yours free of charge. How about that? Let’s see how you did on the true/false question, that’s also free of charge.
Al: “If well managed, your portfolio should double every decade.” That’s a good one. Joe. true or false?
Joe: If you can anticipate a 7% rate of return over a decade, then your portfolio should double. So is that a good portfolio? And I think my opinion? Yeah, that’s a good portfolio. And so I would say that’s true.
Al: OK, I will accept that. Although, in some cases you may not need a 7% rate of return, and if you’re in that position, maybe it’s not going to double in 10 years and maybe that’s just fine. And for some others, maybe when you’re younger, maybe you want to be a little bit more aggressive and maybe you shoot for a little bit more like 8% or 9% to grow your portfolio. Of course, it’s more risky. But when you’re younger, you have more time to let that portfolio grow and cover the losses. So anyway, it’s a reasonable rule of thumb, Joe, but like most of them, it doesn’t fit everything.
Joe: I think here’s a really good rule of thumb that you can use. For those of you that do not understand future value, present value, things like that or rates of return, and how do you put a rate of return on a lump sum? The rule of thumb of the rule of 72 is, let’s say you have a hypothetical growth rate of 6%. How long will that portfolio double? Well you take 6%, you divide it into 72 and it will take you 12 years. So if you have $100,000 and you don’t save any more money into that overall portfolio. In 12 years at a 6% compounded growth rate, you’re going to have $200,000. So when people are planning and it’s like, how much money do I need? They find this big number, but if they have 20 years to plan and they can save a couple of bucks, that big number becomes a reality fairly quickly. And by using the rule of 72, it can help them without banging their head against the wall trying to figure out how to calculate it.
Al: And I think that’s right. It kind of gives you a start. And what’s interesting is that that rule of 72 works for every single interest rate. Like what if you get 1%? What if you’re lucky enough to find a CD that pays you 1%. Divide that into 72, it’s going to take you 72 years for your portfolio to double in that situation. So it’s interesting, Joe. I guess it’s just mathematics. It can be worked with any percentage.
Joe: I think that’s a good illustration of losing money slowly. So when people get extremely conservative in their overall portfolio, and if you receive a 1% growth rate, well just know that that money is going to double in 72 years. 72 years. You think of like that, you’re like, I’d never want to invest in CDs. A couple of other good ones, Al. How about an emergency fund?
Al: Yeah. Well, talk about having a low savings rate, but you do need an emergency fund just for things that come up. The rule of thumb you hear is 3 to 6 months. I agree with that one. I think that’s a good rule of thumb. Although for some of you, it can be on the lower side if you have a really good guaranteed government job, for example. Those of you that maybe you’re self-employed, maybe your business is cyclical, maybe you want to have a year or more saved, just for safety. But I think a good place to start is that 3 to 6 months, Joe.
Joe: Max out your 401(k). Here’s Joe Anderson’s rules of saving, and I can’t believe I just put myself in third person.
Al: You never do that.
Joe: I hate people that put themselves in the third person. I just, I can’t stand it. Anyway, so here it is. Max out your 401(k) to the match. If you qualify for a Roth IRA, switch your savings. Go to the Roth IRA. Then go back to the 401(k) and max that out. And then if those 3 steps are done, then start saving into a non-qualified account or a brokerage account. Then from there, look at Roth conversions. But yeah, max out your 401(k)’s a good rule of thumb, but you could get a little bit more fancy with this. Buy life insurance, Al, 10 times your salary. Are you doing that?
Al: It’s the starting point. I did do that, but then my salary went up and I didn’t change it.
Joe: So, there should be guidelines. Is that 10 times? At what age?
Al: I know. To me, that’s not a great rule of thumb, but it’s better than nothing. So if you make $100,000, that would suggest you need $1 million of coverage. That may or may not be the right answer. But at least it gives you an idea of what you should have in life insurance.
Joe: I would imagine that most people are probably under insured.
Al: I think so.
Joe: Enough of us. Let’s go to Ask the Experts.
Al: This is from Don in Leucadia. “My wife has significant amounts of money in her Roth IRAs. Can I use the money from a Roth account to pay for my RMD so we can minimize our tax exposure?” Well, Don, that’s an interesting question. So retirement accounts are individual. So you’ve got your retirement account that has a required minimum distribution and your wife has her account. So you can’t mix and match. Her Roth account cannot substitute your RMD.
Joe: Is that what that meant? I was kind of confused on that one, “pay for my RMD.” So satisfy his RMD by taking more dollars out. And I understand that because when you look at a joint tax return, you’re going to see IRA distribution. It’s going to have the total amount there. But the IRS, it’s separate. They’re individual retirement accounts, so each of you has to take their own. Let’s see what’s next on the table here.
Al: Julie from Scripps Ranch, “I’ve decided to delay my retirement until I am 74. How can I adjust my target date funds to be consistent with my revised retirement date?” Now that’s an interesting question. First of all, Julie, that’s a long time to work, but congrats. So you probably like your job and you’re feeling healthy. That’s great. How would you answer that question, Joe?
Joe: So she’s pushing out her retirement to a little bit older age. She’s got a target date fund that has a retirement date. If you want to continue with the target date funds, just kind of move it to the date of your retirement. Instead of 2021, I’m going to retire in 2025, you can pick the 2025 retirement date fund. That’s one easy way to look at things. But you probably want to be a little bit more sophisticated and now you have a few more years until you need to tap into those dollars. So does it make sense to keep your allocation the same? Do you want to be more aggressive? It all really depends on on you on track? Or are you still building? There could be a variety of reasons, but if you’re specifically asking about a target date fund, you could just move the date of the target date fund. Easy peasy. You’re all set.
What did we learn today? Rethinking retirement rules of thumb. Rules of thumb to ignore and explore. So hopefully we gave you some good ideas. All of them are at least a good starting point to think about, but it’s not a dead fast rule. You’ll want to understand your needs in retirement. You absolutely need to get personalized on what you’re currently doing and just control what you can control. Hopefully, you enjoyed the show. Remember, get your do it yourself retirement guide. DIY retirement guide at yourmoneyyourwealth.com. Click on that special offer, folks. Get your financial planning in order. Do it yourself if you like, hire a professional. Just get out of Google. Ignore the rules of thumb. Start planning very specifically for your situation, and we have a guide to help you do just that. Go to yourmoneyyouorwealth.com, click on that special offer and we will see you next time.
