How to Create Your Own Pension

Social Security is one of the most unique retirement strategies available because it protects against:

  • Volatility risk
  • Longevity risk
  • Inflation risk
  • Insurance risk (death of a spouse)
  • Cognitive risk

Since so many people are woefully prepared for retirement in terms of their assets, Social Security will be required to play an important role in retirement planning for a large number of the population.1

Most financial experts on the subject recommend the primary wage earner should delay taking Social Security until age 70. This is because your benefits increase every year from age 62 to 70. It’s estimated payments could be higher by 70% or so by delaying payments.

It’s something of a crapshoot when trying to work through the different scenarios in this delay decision because no one knows exactly how long they’ll live.

But for those who do want to maximize their benefits, that means utilizing other assets in the meantime which requires some strategizing.

Steve Vernon for the Stanford Center on Longevity wrote a research report called How to Pensionize any IRA or 401(k) PlanHe tested what he calls the Spend Safely in Retirement Strategy to show how retirees can potentially maximize Social Security, especially those who are unable or unwilling to work longer.

Here’s how this strategy works:

  • You delay taking Social Security until age 70 as most experts suggest.
  • You calculate how much money you would be receiving if you collected SS at age 62 and place that money in a relatively safe investment vehicle such as a money market fund, online savings account or short-term bond fund for spending purposes. For example, if you’re forgoing $1,100/month, which is around the average amount at age 62, you would set aside around $106,000 (the total amount you would be foregoing over the 8-year delay period).
  • You treat the remainder of the portfolio as you would for strategic retirement planning purposes and allocate according to your current situation, using the required minimum distribution tables as a guide for how much to withdraw from that portion of the portfolio.

So the idea is you annuitize or pensionize (is that a word?) the portion of your SS income you’re giving up and use that for a portion of your spending until you take it at age 70.

This is a form of mental accounting in that you’re basically paying yourself upfront from your own portfolio but the bonus is you get a higher payout when you turn 70. You’re also taking some future liquidity off the table to create a larger income stream.

On the positive side of the equation, Social Security offers a guaranteed rate of return by delaying while the financial markets do not. And by keeping a portion of your money in safe investments while you delay your Social Security payments, you’ve effectively created your own pension income stream that you pay yourself with out of that bucket.

The idea is this is a way to create something of your own annuity by increasing your income stream by age 70 through a simple asset allocation shift.

You still have to prudently invest your assets in this situation and some retirees may have higher spending levels than this strategy provides for but this is intriguing for those who are on the fence about outlasting their money in retirement.

There is no blanket retirement strategy that works for everyone because this decision is circumstantial but this is good food for thought, especially for those who are going to have to rely heavily on Social Security in retirement.

Further Reading:
The Biggest Myth in Retirement Savings

Now here’s what I’ve been reading lately:

1Plenty of people worry about the viability of the Social Security program in the future but I’m not too worried, especially for the older generations. I’ll explain in a future post.