How to Plan for RetirementSubmitted by Larry Frank Sr. on Wed, 06/13/2012 - 3:00pmThe bottom line of financial planning: Investing is what you do after youdetermine why you do it. Without the why part, the what part often leadsto surprises. Planning is the step where you consider the larger picture,the strategy and the knowledge of what you control and what you can’t.This is the second article about retirement planning misperceptions.What is the larger picture for retirement planning? When you are workingyou are compensated for your productivity in the economy. This iscalled human capital. When you are no longer productive, or yourproductivity declines due to reduced stamina or skills, your humancapital also declines. When you stop working your human capital ends,as does compensation for it.Your objective is to continue to participate in the economy throughmoney provided to you to sustain your standard of individual living (I callthis SOIL). There usually is a gap between your SOIL and the moneyyou receive in retirement, from pensions, annuities and Social Security.And not everyone has a pension.People need to fill this gap through their 401(k)s, 403(b)s, individualretirement accounts (IRAs), Roth IRAs and other “non-qualified”accounts (tax-deferred plans like deferred compensation) you set asidefor retirement. You do this by investing, which depends on the economyand the markets. Thus, what replaces your human capital iscalled financial capital.Human capital is your productivity in the economy while financial capitalis a measure of the productivity of the economy.By the way, when you work at a company and invest heavily in its stock,you magnify your risk. Should your employer go under or cut backoperations, your paycheck may end and your company stock plunge.
Looking at your situation in light of both human and financial capitalshows why you need to look at the bigger picture when planningdiversification.Your investment purpose is to accumulate enough financial capital tosustain your standard of individual living. This is called net worth orwealth. But getting it is not easy because of mental stumbling blocks.One common mistake is saving less when times are good, and you thinkthe bounty always will roll in so you buy that expensive boat. Of course,the money to save is available when times are good.Planning aims to balance income (human capital) and wealth (financialcapital) so eventually you have the wealth to replace the toil of work.Saving a little more does two things. First, it lowers your current standardof individual living because you are not spending as much. Second, yourtarget wealth also decreases as it takes less money to sustain a lowerstandard of individual living.Notice I call it standard of individual living. Don’t trust national averagesfor what you will need in retirement, such as 80% of your current income.Your individual situation, to include your taxes, may have nothing to dowith national averages. What you spend when working may be verydifferent from what you spend afterward.Your required wealth for retirement should not depend on market returncalculations, like expected returns or future value discount rates,because those rates are simply unknown. One standard is that stocksreturn an average 7% annually, adjusted for inflation. But not always, aswe see all the time in the market. That return over each decade hasfluctuated between a high of over 16% in the 1950s to the low of minus3.4% for the 2000s. If nobody can know future returns, why use them?Your required wealth is best determined by using sustainable withdrawalrates.Larry R Frank Sr., CFP, is a Registered Investment Adviser (California)in Roseville, Calif. He is the author of the book, Wealth Odyssey. He hasan MBA with a finance concentration and a B.S. cum laude inphysics with which he views the world of money dynamically. He haspeer-reviewed research published in the Journal of FinancialPlanning. www.blog.BetterFinancialEducation.com.AdviceIQ delivers quality personal finance articles by both financialadvisors and AdviceIQ editors. It ranks advisors in your area byspecialty. For instance, the rankings this week measure the number ofclients whose income is between $250,000 and $500,000 with thatadvisor. AdviceIQ also vets ranked advisors so only those with pristineregulatory histories can participate. AdviceIQ was launched Jan. 9, 2012,by veteran Wall Street executives, editors and technologists. Right now,investors may see many advisor rankings, although in some areas only afew are ranked. Check back often as thousands of advisors areundergoing AdviceIQ screening. New advisors appear in rankings daily.