How to prepare for the risks to your retirement savings

Retiring means you'll be embarking on a brand-new phase of life. To enjoy it to the fullest, you need to know that you've saved enough, the income sources you'll rely on, and that you've taken steps to manage any retirement risks to your savings.

Risks will vary from one person to another depending on circumstances, but many retirees share some common risks. Think about how each of these may affect you and how you can address them with your own retirement risk management plan.

In this article, we'll cover:

1. Longevity risk
2. Market risk
3. Inflation risk
4. Taxes
5. Health care costs
6. The death of a spouse

None of us knows exactly how long we will live. This makes spending in retirement a little tricky because we want to enjoy our savings, but we have to be careful not to spend it too quickly and risk running out. This is called longevity risk, and it's one of the most fundamental risks in retirement.

Retirement may last longer than you expect. According to actuarial tables published by the Social Security Administration, a 65-year-old male can expect to live another 17 years and females can expect to live even longer—another 20 years, on average. However, you could of course live much longer.

Given the uncertainty surrounding life expectancy, it's smart to consider ways to protect yourself from the risk of running out of money. Common ways include:

Although you can't simplify your retirement down to a single number, you can estimate your savings need. It's helpful to have a rough target so you'll know if you're on track. A retirement income calculator can be helpful.

Starting with enough money can reduce strain and alleviate pressure on your savings.

Incorporating income streams that are guaranteed to last you for life is like buying longevity insurance, and it can be effective at reducing retirement risks. Several options are available:

• Social Security. Social Security provides you with a monthly payment backed by the U.S. government. It pays for life and never runs out. Social Security also has a built-in cost of living adjustment, so you won't lose purchasing power. Because of those features, it may be the most valuable source of retirement income you'll receive, so it's important to plan the time you claim your Social Security benefit carefully.

• Pensions. Although they aren't as common as they once were, you still may be covered by a defined benefit plan or pension. If so, you probably have several options for how to receive your payout. This may include a lump-sum option or lifetime payments.
  

• Annuities. You can choose from many types of annuities, each serving a different purpose. The primary purpose of annuities is to provide an income stream in retirement that is guaranteed for life. If you don't have a pension and your Social Security benefit doesn't provide enough guaranteed income, an annuity is one way to close the gap.
  

While it's vital to know how much money you have, it's also important to know how you plan to withdraw it. Your distribution strategy plays a key role in how long your money lasts.

The 4% rule suggests that you can expect your money to last for 30 years with inflation-adjusted withdrawals. Other strategies involve spending more in the early years of retirement or allowing your withdrawal to fluctuate periodically based on market conditions.

While you are saving for retirement, the long-term average return of your investments matters more than the year-to-year fluctuations. However, that changes once you begin withdrawing from your savings. Long-term return is still important, but volatility plays a greater role and significantly impacts how long your money will last.

Your risk tolerance is about your emotional response to investment risk. When you are young, you likely have a higher risk tolerance because you are still many years away from retirement and don't need to access your money. A higher risk tolerance allows you to invest more aggressively in hopes of achieving a higher return, but it can heighten your investment's vulnerability to volatility.

As you get closer to retirement and your tolerance for risk drops, you can reduce your exposure to volatility by shifting your portfolio to a more conservative asset allocation.

• Read more: When to reevaluate your investment risk tolerance

Diversification can reduce the impact of your portfolio fluctuations. By investing in various types of investments that respond differently to changing market conditions, you can reduce the total amount of risk in your portfolio.

You also can reduce the effect of volatility by segmenting your portfolio into different buckets. Guaranteed income sources form the foundation of your income plan, so making the most of Social Security, pensions and income annuities can provide a cushion against volatile markets.

You can separate the rest of your investments into time-based buckets:

• Near-term. Hold enough cash and other short-term investments for immediate, near-term expenses.

• Long-term. Growth investments like stocks help ensure your money grows enough to cover expenses that are still five or more years away.

Segmenting your assets reduces the need to sell investments to raise cash during a market downturn.

Work guarantees into your retirement plan

Putting a guaranteed retirement income plan into place can help navigate the uncertainties of retirement. Review common guaranteed income sources that can make a powerful impact on your retirement outlook.

Dive deeper

Inflation, the gradual increase in prices over time, creates a slow drag on your retirement savings by reducing your purchasing power. Think about the things you regularly need—such as food, electricity and health care—and how much the prices of those things have changed over your lifetime. That's mostly due to inflation.

It doesn't have to be exceptionally high to have an effect. For example, 3% annual inflation reduces the purchasing power of $100 to $73.74 after just 10 years.

The key to combating inflationary risk is to plan for it. When you anticipate inflation, such as by assuming the historical average of around 2%, you can make necessary adjustments to protect yourself. Unexpected inflation that you don't plan for can have a much worse effect on your retirement.

You can reduce inflation's impact by accounting for it in your spending projections and investing in a way that aims to give you long-term returns exceeding the rate of inflation. For example, if you're comfortable living on $5,000 per month today, consider how that number might change due to inflation by the time you're ready for retirement.

Tax planning in retirement is not simply about getting your tax bill as low as you can each year. It's about tax-efficiency. This involves optimizing your income and timing your tax bills to lower your total retirement tax liability across multiple decades. To do that effectively, you need to consider how elements may change over time.

"Tax now", "tax later" and "tax never" buckets all may have a role in your retirement. If your savings is spread among all three, you can more effectively plan your distributions to be tax-efficient, pulling from each to strategically time your tax liabilities. You may withdraw from your tax-deferred accounts or do Roth conversions in low tax years or blend your withdrawals over time to stay within a target tax bracket.

Your tax rate may change over time for two primary reasons: changes to your income or changes in tax laws.

• Your income may go up or down depending on how much you have saved, your lifestyle goals and distribution plan. If your taxable income goes up, so will your tax bill. It may make sense to spread taxable income over many years to stay in the lowest marginal bracket possible.

• Tax laws themselves may change. Although you can't predict every move, some changes are built in. For example, the Tax Cuts and Jobs Act, expiring at the end of 2025, will cause tax brackets to revert back to pre-2017 levels.

Because you can control some portions of your taxable income in retirement, consider timing taxable distributions to take advantage of the lowest brackets available to you based on your estimations.

Including more tax-efficient investments in your portfolio can help lower your liability. For example:

• Exchange-traded funds (ETFs). ETFs are similar to mutual funds but have a more tax-friendly structure that reduces the amount of distributed taxable gains.

• Municipal bonds. These pay interest that isn't included on your federal income tax return and may not be included on your state income tax return either.

In most cases, you'll be subject to required minimum distributions (RMDs) from your tax-deferred accounts once you reach your RMD age (dependent on your birth year). Reducing your tax-deferred balance with Roth conversions or taking withdrawals earlier in retirement can spread your tax liability and minimize the impact of RMDs.

In addition to providing secure and inflation-adjusted retirement income, Social Security benefits also receive favorable tax treatment. This is one of the reasons maximizing your benefit is a good retirement strategy.

Depending on your combined income, your Social Security benefits may be tax-free. At most, only 85% of your Social Security benefit is taxable.

Learn more about how Social Security is taxed

Digitizing the budgeting process

Shot of a mature couple using a digital tablet while going through paperwork at home

Plan for a tax-efficient retirement

Want to know even more about how you can be tax-efficient in retirement? Check out these tips.

Full guide

It's no secret that for most people, their health care needs and the associated costs increase with age. However, it's also becoming even more expensive with time. The U.S. Department of Health and Human Services reports out-of-pocket expenses for people 65 and older increased by 41% from 2009 to 2019. If you aren't prepared for those costs, they can eat away at the savings you're relying on to cover other expenses. In fact, according to Gallup, more than one-third of people over 50 have needed to cut basic needs to pay for health care.

Consider the following tips to prepare for health care costs:

About 70% of people over 65 will require long-term care at some point in their life, and it will last around three years on average. As you consider that possibility for yourself, think about the type of care you would want because it can have a significant impact on the cost. Options may include going to a community facility or receiving care at home from a trained professional or family member.

You may be able to dedicate a portion of your savings to cover extended caregiving, but long-term care insurance is also an option to weigh. Consider comparing your ability to cover certain levels of care against what a policy might cost.

The vast majority of retirees are covered by Medicare. However, it's important to understand what Medicare does and doesn't cover and the out-of-pocket costs you may be responsible for. Based on your needs and Medicare's coverage gaps, you may want to consider a Medicare supplement.

While you may already share your lifetime finances and savings, another common way to ensure your spouse has enough when you're gone is with life insurance. The two of you can even be covered under the same joint life insurance policy to protect each other.

A Social Security spousal strategy also can help a great deal. A surviving spouse typically receives the greater of their own benefit or the deceased spouse's benefit. Waiting until age 70 to claim the higher-earning spouse's benefit ensures a survivor is left with the largest benefit possible.

Protecting yourself from retirement risks can help you feel more confident that your life won't be upended if problems out of your control arise. Planning your long-term financial strategy lets you mitigate the potential harm these risks pose.

It can be exhausting and unnecessary to plan for every possibility, and what each person needs to feel prepared for the future is different. For help identifying your unique risk factors and creating a strategy to reduce their potential impact, meet with a Thrivent financial advisor.