Most people will say that stock market exposure is the biggest risk they face heading into retirement. While this is definitely a major risk, it's not the only one. In this episode of Money Script Monday, Kevin covers the three major risks during your retirement and offers an opportunity for you to test multiple financial vehicles against each risk.

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Video transcription

My name is Kevin Nuber, and today you're watching a Money Script Monday video about the Three Biggest Risks During Retirement.

If I went to a group of people and I asked them what the number one risk that they face in retirement is, a majority of people are going to tell me that stock market risk is the biggest risk that they face. While I agree that that is a big risk and it is certainly something to address, what I would say is that it's not the only risk. There's other risks that people face in retirement that are as equal to or are more important than stock market risk.

Stock market

Why do we think this stock market risk is the biggest risk that we face? Well, this is creative advertising on behalf of Wall Street, making us think that if you buy the right mutual fund or if you get a five-star-rated mutual fund or you've chose the best mutual fund manager or find the best investment advisor that is going to be your ticket to addressing stock market risk.

While that may be true in a small part, the thing is that Wall Street offers you all the solutions to that one particular risk, so they say. If you only address this one risk, this is a recipe for disaster in retirement without looking at these other retirement risks.

So to start off, let's just address stock market risk because it is a legitimate risk in retirement. Let's say that you have $100,000 in the stock market and we have a really bad year in the market, and you lose 30%. Now your portfolio is down to $70,000. What rate of return do you need to earn in order to recover all of your money back? Most people would say right away, 30%, but the truth is you actually need to earn 42.8% just to get back to the same point. In a nutshell, this explains the risk the people face in retirement.

Rate of Return

The graph shows 1999 all the way to 2017. The orange line is $100,000 that was invested directly into the S&P 500. Everyone knows what happens during this period of time, and the net result, if we calculated an effective rate of return over this 18-year period of time, it would be 3.1%.

Let's say that you were working in the '90s, you've had a lot of success, you put a lot of money away in your retirement accounts, and now it's 1998, 1999, and you've reached your stated goal for retirement, and you decide to retire.

If that was you in 1999, you've had a rough time at it in the stock market if you've only earned 3.1%. But that's not the whole formula. You have been purchasing investment products that had management fees. You likely have been paying an investment advisor to help you with your retirement. We've had things like taxes eroding away your returns and also inflation.

If you look at the real rate of return, which is the actual rate of return that you've earned net of all of these other deductions, it's more like 0%. This is why stock market risk is such a legitimate concern for people facing retirement. You cannot have a 0% net in real rate of return in retirement.

Longevity

This is something people don't talk about too often. I have a very rough picture of Mt. Everest. I like to tell this story because I think this is directly comparable to people in retirement. If you were going to summit the top of Mt. Everest, you're going to spend years and years preparing for this. It's going to take a very long time to actually try to get to that summit.

This is the same for people that go into retirement. You spend your entire career saving up money and focusing on trying to get as much return as you possibly can to your 401k. And much like the goal for the mountaineer is to get to the summit of the mountain, the goal for the worker is to have a certain amount of money in their 401k on the day that they retire.

The problem with having this myopic view on retirement is that for the people who actually die trying to summit Mt. Everest, 85% of the people that die or have an unsuccessful summit attempt are people who die on the way down the mountain. This is true for people in retirement. If you only focus on getting a certain amount of money on that day to retire and not plan for all the years in which you're going to be coming down the mountain that's retirement, then that is also a recipe for disaster.

The average person is going to be in retirement for 20 years, that's like being unemployed for 20 years. Most people can't even handle a year of being unemployed. This requires a lot of planning.

If you have a married couple, age 65, there's a 50% chance that at least one of them is going to live to the age of 92. There's a 25% chance that at least one of them is going to live to age 95. That means that we need to plan on having a descent that's going to go to age 95 or longer because we need to have a plan that has a higher success rate than 75%. We need a much higher confidence that you're going to have a successful retirement.

Taxes

This is a retirement risk that nobody really talks about and it'll have a huge effect on certain people's retirement. If I asked a group of people if they thought taxes today were high, average, or low. Unanimously, they'd raise their hand and they'd all say at the same time, "Taxes are outrageous! They've never been this high before. This is absolutely ridiculous." But the truth is that today taxes are quite low. The current marginal tax rate, is 39.6%. The average top marginal tax rate is 58%. We're well below what the historical averages have been. And in periods of time in the past, they've been in excess of 90% for that top marginal rate.

Tax Deduction

Some could say, "Well, that's not going to affect me because I'm going to have plenty of deductions when I go into retirement." Well, unfortunately, that's not going to be true, either, and this is a common misconception.

The three biggest deductions that you have against your taxes are...

• Mortgage Interest: If you take the conventional advice and pay your home off before you retire, now you've lost your mortgage interest deduction.
• Child Exemptions: Hopefully, your kids have grown up and left the house, and so you have no child tax credit.
• Qualified Contributions: Since you're not employed anymore, you can't make a qualified contribution to an employer plan.

Now you have $20,000, $30,000, $40,000 worth of deductions completely wiped out, so you can actually retire on less income in retirement and end up paying more taxes.

If I went to a group of people and I asked them what the biggest risk expense that they're going to have in retirement's going to be, unanimously, again, they're all going to say, "The health care is going to be the biggest retirement expense." Well, this is not true for people that are going to make more than $100,000 per year in retirement. If you make $100,000 or more in retirement, your biggest retirement expense, by far, is going to be taxes, not health care.

Taxes During Retirement

We need to properly address taxes in retirement in order to have a successful plan. Let's say that your plan for summiting this retirement is to have a million dollars in a 401k, and you accomplish that. You get to the top of Mt. Everest with a million dollars. The problem with this is that if it's all in a 401k, only $700,000 of that money is yours. $300,000 of that money is the IRS' because you have to pay taxes on that money.

That's like getting to the top of Mt. Everest and finding out that you only have 70% of the oxygen that you thought you had or you have 30% less food than you thought you had. That's going to make the descent down this mountain much more difficult. Again, this is the problem about putting money into only tax-deferred accounts when going into pre-retirement.

Your Personal Wealth Report

With that, you need to have a plan to address these three major retirement risks, not just one, when you go into retirement. What we want to offer to you is a free wealth report. What it does is it actually goes through a person's retirement picture and addresses their retirement with these three major risks, rather than just one risk in a 20-page report. We looked at all three risks, and we compared different types of places that you can put your money to see how they stack up against this new test on these three retirement risks.

With that, thanks everybody for watching this video. My name is Kevin Nuber, and thank you for watching this "Money Script Monday" video.