Help with Fixed Income Allocation in Early Retirement

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hawkfan55
Posts: 301
Joined: Thu Apr 03, 2014 9:04 pm

Help with Fixed Income Allocation in Early Retirement

Post by hawkfan55 » Mon Oct 15, 2018 10:12 pm

We are trying to decide how best to position our fixed income retirement savings. Questions below.

Here's our situation. Me: 63 DW: 59 Both Retired. I am holding off taking SS until at least FRA,34k. DW will most likely start her SS payments at age 62, 16k. Planned Withdrawals below assume SS begins for me at FRA, DW at age 62. We are aware of the advantages of waiting till 70 to start SS. We will evaluate as we go forward.

We plan to do Roth Conversions every year thru 2025 to reduce RMDs, staying under the $170k MAGI for Medicare IRMAA. We will be in the 22% fed tax bracket until 2025, then in the 15% bracket throughout balance of retirement, assuming MFJ.

Planned Withdrawal from Deferred Retirement Savings (includes Spending, Roth Conversions, Taxes)
2019 126k
2020 112k My Pension Begins
2021 90k SS Begins
2022 64k
2023 63k
2024 63k
2025 62k
Total $580k

Current Fixed Income Investments in Tax Deferred Accounts
Me, age 63
Vanguard Money Market $32k
Vanguard Short-Term Bond Index Adm $65k
Vanguard Short-Term Investment Grade Adm $68k
Vanguard Total Bond Mkt Index Adm $63k
Vanguard Intermediate Term Investment Grade Adm $94k
DW, age 59.5
Vanguard Total Bond Mkt Index Adm $11k
403b Stable Value $314k (Currently Earning 4%)
Total $647k

DW is currently receiving Non Cola Pension of 39k/yr. I will receive two small Non Cola Pensions totaling 13k/yr starting at age 65. Pensions are/will be 100% Joint and Survivor.
We do not have any after-tax retirement savings other than 10k in a high interest savings account.
Overall AA = 45/55 Stock Funds / Fixed Income
Deferred = 880k AA 27/73 Stock Funds / Fixed Income
Roth= 485k AA 80/20 Stocks / Fixed Income (Vanguard Short Term Corporate 40K/ Stable Value 60K (Currently Earning 4%)
Stocks are in Total Stock Market Index Adm 80% and Total International Stock Market Index Adm 20%

Question #1 Should we make changes to our bond portfolio? Short term vs Intermediate Term? I'm concerned our bond durations do not correlate to when we will need to make the withdrawals during next several years.

Question #2 In what order should we withdraw from our fixed income, bonds vs stable value? I would think stable value would be last because of higher interest earned vs declining NAV due to interest rate increase.

Question #3 Current AA is 45/55. Our plan is to keep AA constant and perhaps raise to 50/50 after SS is started. What do you think?

Thank you for your help.
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Peter Foley
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Re: Help with Fixed Income Allocation in Early Retirement

Post by Peter Foley » Mon Oct 15, 2018 11:02 pm

Overall I like your plan. I would agree that holding onto the stable value makes sense. Given the current interest rate environment and the fact that you are starting withdrawals, I would favor shorter term and intermediate term bond funds over total bond market.

Since you would be the first in line for RMD's it makes sense to me to do the first couple Roth conversions from your accounts. I assume you both have Roths so neither of you need worry about the five year rule. After year two I would reassess and try to figure out taxwise from which accounts to convert and from which accounts to withdraw so as to limit the tax impact of RMD's.

By the way, I personally would plan to leave about $200,000 in tax deferred. If you have a year with high medical expenses or long term care expenses you may be able to withdraw some funds tax free or a very very low tax rate. Your plan does just that.

ralph124cf
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Joined: Tue Apr 01, 2014 11:41 am

Re: Help with Fixed Income Allocation in Early Retirement

Post by ralph124cf » Tue Oct 16, 2018 4:34 am

Peter Foley wrote:
Mon Oct 15, 2018 11:02 pm
Overall I like your plan. I would agree that holding onto the stable value makes sense. Given the current interest rate environment and the fact that you are starting withdrawals, I would favor shorter term and intermediate term bond funds over total bond market.

Since you would be the first in line for RMD's it makes sense to me to do the first couple Roth conversions from your accounts. I assume you both have Roths so neither of you need worry about the five year rule. After year two I would reassess and try to figure out taxwise from which accounts to convert and from which accounts to withdraw so as to limit the tax impact of RMD's.

By the way, I personally would plan to leave about $200,000 in tax deferred. If you have a year with high medical expenses or long term care expenses you may be able to withdraw some funds tax free or a very very low tax rate. Your plan does just that.
+1

hawkfan55
Posts: 301
Joined: Thu Apr 03, 2014 9:04 pm

Re: Help with Fixed Income Allocation in Early Retirement

Post by hawkfan55 » Tue Oct 16, 2018 12:30 pm

Peter and Ralph, thank you for your replies!
Given the current interest rate environment and the fact that you are starting withdrawals, I would favor shorter term and intermediate term bond funds over total bond market.
I thought Total Bond Market was an intermediate term bond fund? Would you move next year's withdrawals to Prime Money Market and Year 2 and 3 withdrawals to short term bond funds? What fund(s) would you place the next three years withdrawals in?
I assume you both have Roths so neither of you need worry about the five year rule.
Yes, we started our Roth IRAs when they were first available and contributed the max every year. Last year we did a very small Roth Conversion and stayed in the 15% fed tax bracket. This year, we converted 35k to Roth and will be in the 22% fed tax bracket. Over the next 6-7 years, we will try to convert 35-50k per year into Roth IRA. Trying to reduce the impact of RMDs and stay in the 15% bracket after 70. Also trying to convert at 22% fed tax bracket to protect savings in case my wife needs to file as a single filer and would be in an even higher bracket. Most deferred retirement savings were contributed in the 25% bracket.
By the way, I personally would plan to leave about $200,000 in tax deferred. If you have a year with high medical expenses or long term care expenses you may be able to withdraw some funds tax free or a very very low tax rate. Your plan does just that.
Yes, we will not be converting everything.

Thank you for your ideas!
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megabad
Posts: 660
Joined: Fri Jun 01, 2018 4:00 pm

Re: Help with Fixed Income Allocation in Early Retirement

Post by megabad » Tue Oct 16, 2018 5:47 pm

hawkfan55 wrote:
Mon Oct 15, 2018 10:12 pm
Question #1 Should we make changes to our bond portfolio? Short term vs Intermediate Term? I'm concerned our bond durations do not correlate to when we will need to make the withdrawals during next several years.
In my opinion, when you make your "withdrawals" is not important. When you will actually spend the money is. It appears you do not need most of these withdrawals for expenses at the moment (hence the Roth conversions). Your bond allocation/duration should correspond to when you will spend the funds, not when you will Roth convert them.

Question #2 In what order should we withdraw from our fixed income, bonds vs stable value? I would think stable value would be last because of higher interest earned vs declining NAV due to interest rate increase.
See above, in my opinion not relevant where the withdrawals come from at this moment. If the money stays in the market, it shouldn't matter. Your allocation should be based on when you will spend the money. And you can change allocation instantly with no consequence in tax advantaged accounts (in most cases assuming fund allows).

Question #3 Current AA is 45/55. Our plan is to keep AA constant and perhaps raise to 50/50 after SS is started. What do you think?
Sounds reasonable to me if it fits your plan.

Thank you for your help.

hawkfan55
Posts: 301
Joined: Thu Apr 03, 2014 9:04 pm

Re: Help with Fixed Income Allocation in Early Retirement

Post by hawkfan55 » Tue Oct 16, 2018 10:02 pm

In my opinion, when you make your "withdrawals" is not important. When you will actually spend the money is. It appears you do not need most of these withdrawals for expenses at the moment (hence the Roth conversions). Your bond allocation/duration should correspond to when you will spend the funds, not when you will Roth convert them.
Thanks for your reply megabad. Most of our planned withdrawals over the next three years will be used for expenses, with 35-50k going Roth Conversions and also to pay income taxes. We are fortunate to have pensions however, we also have some significant expenses so will need to withdraw more over the next three years.
We are using the automatic withdrawals feature that Vanguard offers to meet monthly expenses.
I was mostly concerned with whether we have our bond durations, short or intermediate term, in line with our withdrawals over the next year? I was concerned with having to withdraw from intermediate term funds during the next three years. I know we can't predict what interest rates will do over the next three years. However, if interest rates rise, NAV will drop and we won't want to withdraw the intermediate term bonds while their total return is below water.
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rj49
Posts: 445
Joined: Wed Feb 23, 2011 12:22 am

Re: Help with Fixed Income Allocation in Early Retirement

Post by rj49 » Tue Oct 16, 2018 11:50 pm

If you're hesitant over bonds due to interest rate risk and NAV fluctuations, you could try gradually setting up a CD ladder, which will rise if interest rates do so, diversifying the interest rate risk. I diversify interest rate risk by investing in Veterans bonds through Streetshares, which pays a fixed 5%, with the ability to sell the bonds without penalty in the anniversary month of purchases. I've gotten 5% regularly for several years, but there's always a slight risk they will fail and their system of loans to veteran-based businesses collapse, so I simply don't invest more in it than I could stand to lose. For near-term spending, converting bonds to Vanguard Prime is more tempting to me at 2.2% now than the risks of negative returns from bond funds. I remember back in the late 1980s, thinking a short-term bond fund would be a sort of supercharged savings account, and it was traumatic to see my savings decrease with NAV. Another bright side of some bond volatility is that it won't threaten your retirement security nearly as much as another 2000 or 2007 stock scenario would.

hawkfan55
Posts: 301
Joined: Thu Apr 03, 2014 9:04 pm

Re: Help with Fixed Income Allocation in Early Retirement

Post by hawkfan55 » Wed Oct 17, 2018 12:02 pm

For near-term spending, converting bonds to Vanguard Prime is more tempting to me at 2.2% now than the risks of negative returns from bond funds. I remember back in the late 1980s, thinking a short-term bond fund would be a sort of supercharged savings account, and it was traumatic to see my savings decrease with NAV. Another bright side of some bond volatility is that it won't threaten your retirement security nearly as much as another 2000 or 2007 stock scenario would.
Thanks rj. I agree with your comments.
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