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The last 24 months have convinced me of the importance of having say 4 or 5 years worth of retirement income in principle secure instruments. I plan on retiring in about 5 years. If I start this year purchasing 5 year bonds, I will have income from these and taxes for the years until retirement. On the other hand if I wait and purchase some 5, 4, 3, 2 and 1 year bonds at the time of retirement the equity market might be in a downward funk.

This all leads to two questions:

#1 What is the "preferred" method of creating the initial laddered low volatility investments?

#2 What options other then government bonds should be considered?

Thank you and have a nice day.

gordon
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TwoCybers asks,

The last 24 months have convinced me of the importance of having say 4 or 5 years worth of retirement income in principle secure instruments. I plan on retiring in about 5 years. If I start this year purchasing 5 year bonds, I will have income from these and taxes for the years until retirement. On the other hand if I wait and purchase some 5, 4, 3, 2 and 1 year bonds at the time of retirement the equity market might be in a downward funk.

This all leads to two questions:

#1 What is the "preferred" method of creating the initial laddered low volatility investments?


My preference is to buy a 5-yr FDIC-insured CD equal to one years' worth of livng expenses when you are 5 years from retirement. Buy another 5-yr CD the next year when your 4 years from retirement. Continue buying 5-yr CDs each of the succeeding years. When you retire your 5 year ladder will nbe in place.

#2 What options other then government bonds should be considered?

I prefer FDIC-insured CDs since the yield is higher than US Treasury securities and you still get a gov't gaurantee.

intercst

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intercst,

Thank you for the reply (and thank you Gordon for the question).

Now, I have a couple of questions, if you don't mind:

1. What if your living expenses are greater than FDIC insured limits?

2. Are you not considering insured bond because you can lose principle, or is there another reason?

Thanks,
e
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Since you seem to be in a high tax bracket I would use good quality municipal bonds. The interest on these bonds is tax free. If you pick investment grade bonds (rated A or better) and have a diversified number of bonds the risk is very small. You can even get insured bonds and reduce the risk even more.
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euphoriant asks,

intercst,

Thank you for the reply (and thank you Gordon for the question).

Now, I have a couple of questions, if you don't mind:

1. What if your living expenses are greater than FDIC insured limits?


Just use multiple banks. You can get $100,000 FDIC insurance from each bank. If your annual expenses are $200,000 per year and your 5-year ladder totals $1 million, then just spread it among ten banks. (In practice, I'd probably use more than 10 banks since you wouldn't want the interest earned on the CD to put your over the $100,000 limit. At a 6% interest rate, a $75,000 five-year CD will be worth $100,000 at maturity.)

2. Are you not considering insured bond because you can lose principle, or is there another reason?

I've just found CDs to be easier and cheaper (no brokerage commission). An insured bond is fine as long as the yield is high enough to compensate you for the cost of buying it.

intercst

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You can buy brokered-CDs through some investment companies, where the commission is paid by the bank issuing the CD. Always check to make sure that the CD you are interested in is federally insured.

I have owned several through my broker, Quick-Reilly.
rlbar
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ribar writes,

You can buy brokered-CDs through some investment companies, where the commission is paid by the bank issuing the CD. Always check to make sure that the CD you are interested in is federally insured.

I have owned several through my broker, Quick-Reilly.


The commission may be paid by the bank, but the yields are generally a bit lower than what you'll find on www.bankrate.com

There's no free lunch in the investment world. Everyone who touches your money will want their cut.

intercst
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Once a bond/CD ladder is established and withdrawals have begun, how should a retiree go about funding the ladder each year? Where do the funds for each new bond/CD come from?
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mawhinney asks,

Once a bond/CD ladder is established and withdrawals have begun, how should a retiree go about funding the ladder each year? Where do the funds for each new bond/CD come from?


From your stock portfolio.

intercst
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Once a bond/CD ladder is established and withdrawals have begun, how should a retiree go about funding the ladder each year? Where do the funds for each new bond/CD come from?

From your stock portfolio.

When you fund your retirement ladder each year do you use dividends and distributions from taxable accounts instead of reinvesting them? If so, wouldn't this manuever possible save paying extra taxes for if you reinvested and then had to sell to fund the ladder, you could possibly be paying extra capital gains tax. Seems as though it might be best to have all dividends and distributions paid out and if they are not needed to fund a new ladder, they could be reinvested in the same instruments or to establish new accounts.

Do you use funds in taxable accounts first or do you use tax deferred accounts first? It is seems as though there are pros and cons to each method. Leaving tax deferred accounts to grow as long as possible and using the funds in taxble accounts first seems wise. However, if one wants to leave funds to hiers or needs to leave funds to provide care for a disable person, it seems that it would be best to use up funds in tax deferred accounts first so that the person or persons inheriting the funds would recieve the benefit of inheriting the funds in taxable accounts at the cost basis on the date of death. Your thoughts, please!
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mawhinney asks,

<<<<Once a bond/CD ladder is established and withdrawals have begun, how should a retiree go about funding the ladder each year? Where do the funds for each new bond/CD come from?

From your stock portfolio.>>>>>

When you fund your retirement ladder each year do you use dividends and distributions from taxable accounts instead of reinvesting them? If so, wouldn't this manuever possible save paying extra taxes for if you reinvested and then had to sell to fund the ladder, you could possibly be paying extra capital gains tax. Seems as though it might be best to have all dividends and distributions paid out and if they are not needed to fund a new ladder, they could be reinvested in the same instruments or to establish new accounts.


Yes. As a retiree you should always spend interest and dividend income to meet your expenses before liquidating any stock. However, someone owning an S&P500 index fund is only getting about a 1% dividend, so they'll still need to sell stock if they are spending 4% of their retirement portfolio.

Do you use funds in taxable accounts first or do you use tax deferred accounts first? It is seems as though there are pros and cons to each method. Leaving tax deferred accounts to grow as long as possible and using the funds in taxble accounts first seems wise. However, if one wants to leave funds to hiers or needs to leave funds to provide care for a disable person, it seems that it would be best to use up funds in tax deferred accounts first so that the person or persons inheriting the funds would recieve the benefit of inheriting the funds in taxable accounts at the cost basis on the date of death. Your thoughts, please!

My preference is to spend my IRA/401k first for the reasons you list. Since I retired in 1994 at age 38 another concern was letting my IRA grow to a very large value when I'm required to make distributions at age 70.5. Under current tax law, my IRA distributions could be taxed as high as 39.6%, while stock held in my long term buy and hold taxable account sees a maximum capital gains tax of 20% no matter how large the account gets. I decided to tap my IRA using the 72(t) exception while I'm in a lower tax bracket, hopefully limiting the tax burden when I'm 70.5.

intercst
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Please explain the 72(t) exceptions to the IRA distribution rules.
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mawhinney asks,

Please explain the 72(t) exceptions to the IRA distribution rules.

See link: http://www.geocities.com/WallStreet/8257/wdraw59.html

TMFPixy also has an article on the subject at:

http://www.fool.com/retirement/manageretirement/manageretirement9.htm

intercst
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Hi Intercst,

I wonder if you happened to see The Wall St. Journal the other day, they had a supplement concerning funding for retirement?

The article concerning the 5 bucket approach caught my attention.......it went like this
1. keep an amount equal to 4 yrs. of expenses in cash/bonds, the rest in stocks.

2. in the 1st bucket, put in 1 yrs. of expenses into a money market fund
3. in the 2nd bucket, put 20% in short term securities<up to 2 yrs. maturities>
3. in the 3rd bucket, put 50% in intermediate term securities<3-10 yrs. mat.>
4. in the 4th bucket, put 30% in long term securities<10-30 yrs. mat.>
5. in the 5th bucket, put balance of portfolio into stocks.

Said in the article that formula would have to be rejiggered each yr. to account for the cash thrown off by bonds,corporates, treasuries, etc.

I thought the article was interesting enough to look at my own portfolio, and find out that I have too much in the MMA....but I thought I would find out what other retired folks thought about the 5 bucket approach, apparently this has been around for awhile.

Your opinion ?

Thanks,
Lou
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The cash and bonds/fixed income total figure was the 3 to 5% customary withdrawal rate at retirement.

Lou
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InvestorLou asks,

Hi Intercst,

I wonder if you happened to see The Wall St. Journal the other day, they had a supplement concerning funding for retirement?

The article concerning the 5 bucket approach caught my attention.......it went like this
1. keep an amount equal to 4 yrs. of expenses in cash/bonds, the rest in stocks.

2. in the 1st bucket, put in 1 yrs. of expenses into a money market fund
3. in the 2nd bucket, put 20% in short term securities<up to 2 yrs. maturities>
3. in the 3rd bucket, put 50% in intermediate term securities<3-10 yrs. mat.>
4. in the 4th bucket, put 30% in long term securities<10-30 yrs. mat.>
5. in the 5th bucket, put balance of portfolio into stocks.

Said in the article that formula would have to be rejiggered each yr. to account for the cash thrown off by bonds,corporates, treasuries, etc.

I thought the article was interesting enough to look at my own portfolio, and find out that I have too much in the MMA....but I thought I would find out what other retired folks thought about the 5 bucket approach, apparently this has been around for awhile.


It's probably a little riskier than having 5 years worth of living expenses in cash and CDs with 1 to 5 year maturities. I'm not sure I'd want money I'm going to spend in four years to be in 10-30 year bonds. I try to match the maturities of my investments to when I plan on spending the money.

intercst
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