Retirement is an exciting life mileston, one that's often viewed with great anticipation. This is especially true if you're someone with retirement income that's guaranteed by an employer-provided pension plan. It's reassuring to go into this new period of life with the assurance that your income needs will be covered.

Unfortunately, many people who depend on the fixed income payments from a pension, annuity, or other sources may develop concerns several years into retirement for many reasons.

Although a fixed income amount may be enough at the beginning of your retirement, the effects of inflation can diminish the value of this amount after several years. Let's say retirees experience a historically average inflation rate of 3%. In 24 years, twice as much money will be needed to cover their income needs versus what was required at the beginning of their retirement.

For example: In 24 years, today’s $2 loaf of bread will become $4, and a $4 gallon of milk will rise to $8. While monthly income remains the same, inflation steadily erodes its purchasing power.

The importance of variable income and investments

Adding a non-static income stream to your retirement portfolio can help problem of inflation. Rather than remaining the same over time, a variable income stream can increase as inflation increases. While there is no guarantee that income streams will grow in lockstep with inflation, it is likely they will at least keep pace, if not exceed inflation’s impact.

Most pension plan and fixed annuity retirement income payments do not rise with inflation. That's why it's a wise approach to add an income stream that does increase. The best way to do this is to save and invest money in a stock-based account. Stocks (or equities) may seem an unstable investment as value regularly moves up and down, but historically, stock-based investments increase over time and have been shown to keep pace with inflation.

Allowing enough time for your investments to grow is important, as short-term results (over only a few years) may be disappointing. When the timeframe is expanded to six or seven years or more, the impact of stock investment variability and volatility generally decreases. The resulting investment returns generally move in an upward direction. This is exactly what you want if you need your retirement income to keep pace with inflation. There are no guarantees that stock-based investments will continue to increase, but for the last 100 years, this has been the case.

How can I put money into a variable investment?

Mutual funds, exchange-traded funds and variable annuities all are reasonable options for variable investments. Many of these are available in IRAs, 401(k), and 403(b) accounts and provide tax-deferred growth.

You may be concerned about giving up a guaranteed, stable income base, but there is no need to do that. Instead of eliminating your pension or other fixed income payments, supplement them with a variable income stream.

Combining both types of income streams can provide you with a stable fixed income—along with a variable income stream to counteract the erosive effect of inflation. This can result in a more comfortable retirement over many years.

Additional ways to build your retirement confidence

In addition to diversifying your retirement income streams, there are other strategies you can use to get on track to financial stability once you leave the workforce. These include:

• Take charge of your debt by paying down credit card balances, medical bills, and your mortgage (if applicable) as much as possible.  
• Set up an emergency fund to cover unexpected major expenses or income disruptions that might affect your retirement savings.
• Start exploring Medicare coverage options to determine the most budget-friendly plan for your needs.
• Purchase long-term care insurance to ensure your finances are protected should you or your spouse need paid long-term care services.
• Contribute to a health savings account (HSA) that can help defray your out-of-pocket health care costs.

The bottom line? Being proactive about retirement planning is critical. Leaving the workforce is a big life transition, and how you prepare now will go a long way in determining how financially secure you are later.

John Carter, President and COO of Nationwide Financial, explains it this way: “As we enter a period of peak retirement in our country, many retirees will face harsh reality checks if they missed opportunities to prepare for this moment.”

Visit our Work & Retirement Pathways resource library to learn more about creating financial security in retirement. 

 

Sources

1. Nationwide Peak Retirement Survey Report (PPT). December 2023.