Strategies for Income and Wealth Replacement

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By Maurice Stouse, Branch Manager and Financial Advisor

These days many investors are in search of income. With interest rates nearing record lows, a recent sell off in the stock market, job losses, early retirements, reduced or eliminated dividends, and income security has become even more important to many Americans. Equally important is principal security. Investors, savers and those in need of income have quite the dilemma: How to get income security yet not have to sacrifice principal in order to do so. This article explores ideas for investors to consider. Ultimately each person’s situation is unique. So this is a guideline to aid you in your research and decision making.

The yield on CDs, treasury bonds, money market funds and savings accounts took a sharp downturn this year as the Federal Reserve worked to bring liquidity into the economy in the face of the COVID 19 virus and the disruption it caused. This meant reduced interest rates on many investments that a lot of individuals relied upon for income or, as a supplement to Social Security, pension or other income. The problem many have faced is that it takes more principal to fund the same income. Or it means the systematic liquidation of assets to meet a given income need.

Enter solution one: The systematic withdrawal plan (SWP or swip). This is how it works. Here is where you start with inputting a desired income amount. Next you would add the amount of principal you can afford to apply to that income. You will also need to put in the percentage you need to earn to meet the income, add any rate for presumed inflation and lastly put in a projected or expected rate of return. There are many tools available online and through Financial Advisors that will assist you on building this scenario.

Here is an example. Let’s say an age 72 retiree with one million dollars in her account desires annual withdrawals of $40,000 per her required minimum withdrawal. She is concerned about the systematic liquidating of the investment and she does not know how long she will need to rely upon it, or in other words, how long she will live. Also, she might be concerned if her income will keep up with the cost of living. Using the calculator and inputting the 40k, she will find that the account has a withdrawal rate of just over 4% per year. She also instructs the calculator to assume her investment will return 5%. Inflation is factored in at 2%. The results show (if all assumptions turn in to reality) she will receive the annual income of $40,000 and if she were to attain age 100 (28 years later) her account would then be worth $1,014,656, about where she started.

Next, solution number two: Income investors might also have the concern that they do not want or cannot commit all of their capital to one strategy. They may need to have funds set aside for an emergency or other needs as well. Insurance companies offer a variety of options through the use of annuities that might involve investing less principal and, given the needed investment performance, might even grow the income. This strategy might also free up capital to invest for long term growth (and not have to have it focused on current income) in an attempt to replace the wealth that was being utilized to provide the income.
There are more aggressive strategies, such as a dividend producing stock portfolio where the income would come from the dividends paid by a basket of stocks or by using a stock mutual fund. The average yield on the S&P 500 is just below 2%. So an investor needing 4% would need to research companies and or mutual funds (or exchange traded funds) that would have that return. There is also the growth (or loss) potential on the stocks.

Finally, many income investors have turned to real estate over the years for long-term income. Some have done so by way of investing in rental properties and others through Real Estate Investment Trusts (REITS) to generate the income and perhaps the wealth replacement they have as a goal. REITS invest into a number of properties and the investor can buy the REITS themselves or funds made up of REITS. Once again capital appreciation is a potential, but so is the potential for loss.

When considering any of these options, it is important to take note of 1) the risks involved to your principal 2) the risk of sustaining a given rate of return (for example a company may decide to reduce or eliminate a dividend) and 3) the costs associated through the strategy (expenses, maintenance (real estate) riders if any, early withdrawal charges if any, or investment expenses).

Maurice Stouse is a Financial Advisor and the branch manager of The First Wealth Management and Raymond James and he resides in Grayton Beach. He has been in financial services for over 33 years. His main office is located at First Florida Bank, a division of the First, A National Banking Association, 2000 98 Palms Blvd, Destin, FL 32451. Branch offices in Niceville, Mary Esther, Miramar Beach, Freeport and Panama City, Pensacola, and Tallahassee. Phone 850.654.8124. Raymond James advisors do not offer tax advice. Please see your tax professionals. Email: Securities offered through Raymond James Financial Services, Inc. Member FINRA/SIPC, and are not insured by bank insurance, the FDIC or any other government agency, are not deposits or obligations of the bank, are not guaranteed by the bank, and are subject to risks, including the possible loss of principal. Investment Advisory Services are offered through Raymond James Financial Services Advisors, Inc. The First Wealth Management First Florida Bank, and The First, A National Banking Association are not registered broker/dealers and are independent of Raymond James Financial Services. Views expressed are the current opinion of the author, not necessarily those of RJFS or Raymond James, and are subject to change without notice. Information provided is general in nature and is not a complete statement of all information necessary for making an investment decision and is not a recommendation or a solicitation to buy or sell any security. Past performance is not indicative of future results.

Investing involves risk and you may incur a profit or loss regardless of strategy selected, including diversification and asset allocation. Investors should consult their investment professional prior to making an investment decision. With variable annuities, any withdrawals may be subject to income taxes and, prior to age 59 1/2, a 10% federal penalty tax may apply. Withdrawals from annuities will affect both the account value and the death benefit. The investment return and principal value will fluctuate so that an investor’s shares, when redeemed, may be worth more or less than their original cost. An annual contingent deferred sales charge (CDSC) may apply. A fixed annuity is a long-term, tax-deferred insurance contract designed for retirement. It allows you to create a fixed stream of income through a process called annuitization and also provides a fixed rate of return based on the terms of the contract. Fixed annuities have limitations. If you decide to take your money out early, you may face fees called surrender charges. Plus, if you’re not yet 59½, you may also have to pay an additional 10% tax penalty on top of ordinary income taxes. You should also know that a fixed annuity contains guarantees and protections that are subject to the issuing insurance company’s ability to pay for them. Dividends are not guaranteed and must be authorized by the company’s board of directors. The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market. Indices are not available for direct investment. Any investor who attempts to mimic the performance of an index would incur fees and expenses which would reduce returns. Be advised that investments in real estate and in REITs have various risks, including possible lack of liquidity and devaluation based on adverse economic and regulatory changes. Additionally, investments in REIT’s will fluctuate with the value of the underlying properties, and the price at redemption may be more or less than the original price paid. Real estate investments can be subject to different and greater risks than more diversified investments. Declines in the value of real estate, economic conditions, property taxes, tax laws and interest rates all present potential risks to real estate investments.

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