Question & Answer: Planning for Retirement

By: Capital Investment Advisors Arizona

At Capital Investment Advisors, we often are asked some very topical and evergreen retirement questions. After all, the happiest retirees on the block share a vivacious sense of curiosity. Chances are, those in or looking to retire have similar questions and we wanted to share a few of our recent favorites with you today.

Our first question comes from Andrew.

“What are your thoughts on having a 100% stock portfolio even up through and to retirement?”

History shows that stocks tend to yield higher returns over time, but they can be more volatile than other holdings like bonds and other fixed-income products. The risk can ultimately affect your financial and mental well-being if you don’t limit your exposure.

Until recently, the interest rate on bonds had been so low that many found them unattractive. But bonds are predicated on current interest rates, and as we’re all painfully aware, the Fed has been steadily raising those. So, if you’re an income investor today and don’t want all your eggs in the equity/stock basket, bond yields are higher than we’ve seen in a long time.

The responsible answer here is that it’s essential to have something other than stocks in your portfolio and have some dry powder in your portfolio.

What exactly do we mean by dry powder? The term dry powder refers to the historical necessity of keeping moisture from gunpowder in battle. In finance, dry powder means the cash reserves a company or individual maintains to meet obligations in times of economic stress — the various ways to fill your cash (savings, money market funds, CDs) and income (treasuries, municipal and investment-grade bonds) buckets. Holding a diversified portfolio that includes dry powder can help you maintain discipline and sleep well at night when volatility strikes.

People typically have more dry powder like bonds and treasuries as they

near or enter retirement.

A target date retirement fund automatically downshifts the percentage of stocks and accelerates the more conservative allocations with time. An eighty-twenty stock-to-bond ratio might be appropriate at an earlier age during prime working years but not typically realistic once you get to or close to retirement. Of course, investing is no size fits all, so it really depends on your situation and what your goals and objectives are for your money.

Next, Jenny had a question about Roth IRA conversions.

“Hello. I just had a question about converting IRA money into a Roth IRA in a massive amount of as much as you can — a lot of money in transfers to negate taxes in the future. Is it okay to convert massive amounts?”

The reason you’d want to convert a traditional IRA into a Roth IRA is that there are certain tax advantages you can receive with the Roth IRA. You can invest that money in a tax-sheltered container that can later be withdrawn tax-free. Furthermore, the IRS doesn’t mandate required minimum distributions (RMDs) from a Roth. We’d certainly be interested if we could all transfer limitless funds into Roth IRAs, but it’s not that simple. There are other factors to consider.

First, figure out your tax bracket today and which one you think you’ll be in tomorrow. The answer to that comes into play once we consider the following component: paying the taxes that come along with a Roth conversion.

The money converted to a Roth counts as income for that year. Let’s say you earned $70,000 annually at your job in 2022. Converting $50,000 from a traditional IRA to a Roth would increase your MAGI (Modified Adjusted Gross Income) to $120,000.

If you are married and filing jointly, that difference would bump you to a higher tax bracket. Instead of paying 12 percent income tax, you’d be paying 22 percent. Ouch! Another aspect to consider is the state of the markets. It’s generally better to convert when the markets are down because you’re essentially taking money from one retirement account and putting it in another, hoping for a later rebound. But this is where it gets complicated. In general, a Roth conversion makes sense if you’re in the 20 percent bracket today and will be in the 25 percent bracket when you retire.

But the inverse is also true. If your tax bracket will be much lower in retirement, a conversion today may not make sense.

There’s a lot to think about here but speak to your CPA to see if you should consider a Roth conversion. As you do, remember that the more we convert, hypothetically, the more immediate pain we’ll feel come tax time. So, folks often elect to convert smaller, more measured amounts to their Roth each year. That way, they aren’t stuck with a giant bill. The bottom line is to look at taxes today vs. taxes tomorrow. Then, figure out which one benefits you more.

Jason has worked in the investment business for over 15 years and is willing to answers any questions you might have about retirement or working with our team. Click below to connect with us and get started on your retirement plan with a complimentary financial review.

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