Retirement Financial Planning: Accumulation vs Decumulation
October is financial planning month. This centers around getting your money in order, such as goal setting, creating a budget, investing, or planning for retirement.
When it comes to retirement financial planning, most tend to focus on the process of accumulating wealth. But it doesn’t end there. Retirement financial planning needs to consider what happens after one retires, the phase known as the decumulation phase.
Accumulation vs. Decumulation: Understanding the Key Differences
Accumulation and decumulation are two phases in the lifecycle of your finances, often associated with retirement planning. Each phase serves a distinct purpose and involves different financial strategies. Here’s a breakdown of the key differences:
Accumulation:
Focus: The accumulation phase primarily focuses on saving and building wealth for future financial goals, such as retirement, buying a home, or funding your children’s education.
Timeline: It typically spans several years or even decades, during which you work, save, invest, and grow your assets.
Income Sources: Your primary sources of income during the accumulation phase are your salary or earnings from work, rental income, and any investment returns.
Goals: The primary goal is to accumulate a sufficient nest egg or portfolio to meet your financial objectives, such as retiring comfortably or achieving specific financial milestones.
Investment Strategies: During accumulation, you may be more willing to take on higher levels of risk in your investments because you have a longer time horizon to ride out market fluctuations.
Decumulation:
Focus: Decumulation is the phase in which you start drawing down on your accumulated assets to fund your living expenses, typically during retirement.
Timeline: It begins when you retire or reduce your working hours and continues throughout your retirement years.
Income Sources: In decumulation, your primary sources of income are your retirement savings, pension plans, Social Security benefits, and any other investments you’ve built up during the accumulation phase.
Goals: The primary goal is to generate a reliable and sustainable income stream to maintain your desired lifestyle in retirement while preserving your wealth.
Investment Strategies: Decumulation strategies often involve a shift towards more conservative investments to reduce the risk of losing principal, as the focus shifts from growth to income preservation.
Retirement Key Considerations:
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Withdrawal Rates: In the decumulation phase, careful consideration is given to the withdrawal rate, which determines how much money you can safely withdraw from your savings each year without running out of funds.
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Risk Tolerance: During accumulation, you may take on more investment risk to potentially achieve higher returns. In decumulation, preserving capital and minimizing risk become top priorities.
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Longevity Planning: Decumulation strategies often need to account for the possibility of a long retirement period, ensuring that your assets can sustain your lifestyle for decades. Social Security and annuities are sources of income that will last throughout your life, protecting you from running out of money in retirement.
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Tax Planning: Accumulating money in tax-free assets, i.e. saving after-tax money in a Roth IRA and index universal life insurance can lower your taxable income in retirement. It will also lower the percentage of social security income that is taxed, and your Medicare Part B premium.
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Loss of spouse risk: Losing a spouse poses a financial risk due to loss of income and an increase in tax bracket as the surviving spouse transitions from joint filing to single filing.
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Frailty and incapacity: The possibility of a long-term illness and inability to care for oneself and one’s finances is an important financial planning consideration.
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Learn about other retirement risks to risk-proof your plan.
Celebrate Financial Planning Month in October: Begin with the end in mind
Effective retirement financial planning involves transitioning smoothly between these two phases to secure your financial well-being throughout your life.
Decumulation goes hand in hand with accumulation. Decumulation ensures you have a strategy for a steady and stable paycheck after you stop working and it is more complex than just having a sizeable amount of money. It takes into account strategies for (minimizing) taxes, maximizing social security, and other sources of income, hedging against inflation and other risks, and most importantly avoiding premature depletion of assets.
If you begin with the end in mind and understand how the decumulation phase works you can be intentional about how and where you accumulate retirement assets in the accumulation phase. Working with an advisor who takes this approach can make a world of difference in your retirement outcome.
Financial Planning Month is a great opportunity to start or continue your efforts to organize your financial situation. Get your financial plan in order this month, so you can maintain it during the holidays and into the new year. Happy Financial Planning Month
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Sheilla Vidal is a Retirement Income Certified Professional RICP® and life insurance broker. She is also a physical therapist, a mom of two and one of the caregivers for her 85-year-old dad. She is an avid learner, she writes, speaks, and sees her work in helping clients live with dignity as her God-given mission.
