TAMING A BEAR MARKET IN RETIREMENT. Adding flexibility to your retirement income portfolio with a whole life insurance policy

Transcription

1 TAMING A BEAR MARKET IN RETIREMENT Adding flexibility to your retirement income portfolio with a whole life insurance policy

2 Your financial strategy probably includes saving for retirement, but how does it address the issues concerning income distribution planning during retirement? Content 2 The Impact of a Bear Market During Retirement 4 Robert s Retirement Account 6 How Can You Prepare for a Bear Market in Retirement Today? 8 Whole Life Insurance vs. Alternative Options 9 Summary The decision to purchase life insurance should be based on long-term financial goals and the need for a death benefit. Life insurance is not an appropriate vehicle for short-term savings or short-term investment strategies. While the policy allows for loans, you should know that there may be little to no cash value available for loans in the policy s early years. The information in this brochure is not written or intended as specific tax or legal advice. MassMutual, its employees and representatives are not authorized to give tax or legal advice. Individuals are encouraged to seek advice from their own tax or legal counsel. NOT A BANK OR CREDIT UNION DEPOSIT OR OBLIGATION NOT FDIC OR NCUA INSURED NOT INSURED BY ANY FEDERAL GOVERNMENT AGENCY NOT GUARANTEED BY ANY BANK OR CREDIT UNION

3 The Changing Retirement Landscape Today, many people are finding that the traditional means of funding a comfortable retirement can no longer be relied upon. The caps placed on qualified retirement plan funding, the minimal income replacement percentage of Social Security and the dwindling number of employer-provided pension plans mean that a much greater portion of your retirement savings must come from other sources. What makes this even more of a challenge is the fact that the more you earn, the more you need to save. Individuals generally need 75% to 85% of their pre-retirement income to live comfortably in retirement. The chart below illustrates how the percentage of pre-retirement income replaced by Social Security retirement income benefits decreases as your income level increases. Projected Social Security Retirement Benefits Based on Pre-Retirement Income Level $250,000 Annual Income $200,000 $150,000 $100,000 $50, % 31% 23% 17% 14% Pre-Retirement Income Level Difference Between Social Security Benefit and Current Income Social Security Retirement Income Estimated Social Security retirement income benefit calculated on 10/1/2016 using the Social Security Quick Calculator at Percentages are based on projected benefits for an individual currently age 45 retiring at age 67. 2

4 The Impact of a Bear Market During Retirement Taking income from an equity- based retirement account during a period of negative returns can have a significant adverse effect on the future value of the account. Many individuals with the necessary risk tolerance and long-term investment horizon take advantage of the upside potential of equity investments in accumulating assets for retirement. However, equity markets may be subject to periods of volatility. This raises the question: What would happen if you retire at a time when stock and bond prices are declining? What effect could this have on your retirement accounts, and what can you do to minimize the impact on your retirement income stream? Taking income from an equity-based retirement account during a period of negative returns can have a significant adverse effect on the future value of the account. This may ultimately impact the amount of income you have available during retirement, as well as the amount of your legacy to your family. It s important to include a conservative element in your retirement income strategy that will give you the financial flexibility to more effectively manage your retirement income during changing economic conditions. The following case study illustrates how effective planning for the inevitable bear markets that occur over time can help preserve the long-term value of equity-based retirement accounts. 3

5 Meet Robert Robert plans to retire when he turns age 65. He will have accumulated $2 million in qualified plan assets that he will roll over into an individual retirement account (IRA) when he retires. Robert expects to immediately begin taking annual distributions of $150,000 from the IRA at the start of each year to supplement his other sources of retirement income. Robert will invest the account in a diversified portfolio of stocks because he believes that investing in the stock market will give him the best long-term return on his account, even if he needs to ride out a couple of bear markets. 4

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7 Robert s Retirement Account Let s take a look at Robert s hypothetical retirement account, assuming that he takes $150,000 of income from the account at the beginning of each year and his account earnings rates are equal to the actual performance of the S&P 500 Index* from 1973 to The average gross return of the S&P 500 during this 15- year period was over 11.28%. There were four years when returns were negative, and during the first two years the index declined in value by more than 37%. This time period was selected to illustrate the severe impact that negative returns can have on a retirement account over a period when income distributions are being taken, especially if the negative returns occur shortly after the distributions begin. The distributions of income will be taxable as ordinary income to Robert, who is in a 33% marginal income tax bracket. As you will see, Robert took the $150,000 income distribution from the account each year and he still had over $900,000 in the account at the end of the 15-year period. Robert s Retirement Account Age Beginning of Year Balance Systematic Withdrawal on 1/1 Post Withdrawal Balance S&P 500 Return End of Year Balance 65 $2,000,000 $150,000 $1,850, % $1,576, ,576, ,000 1,426, % 1,048, ,048, , , % 1,233, ,233, ,000 1,083, % 1,340, ,340, ,000 1,190, % 1,103, ,103, , , % 1,016, ,016, , , % 1,027, ,027, , , % 1,149, ,149, , , % 950, , , , % 969, , , , % 1,003, ,003, , , % 905, , , , % 998, , , , % 1,006, $1,006,123 $150,000 $ 856, % $ 900,642 Assumptions: Beginning value $2 million; $150,000 Annual Systematic Withdrawal, $100,000 Annual Income Net Taxes 33%; S&P 500 Historical Performance from ; The S&P 500 Index is a list of securities frequently used as a measure of U.S. stock market performance. These investment results and account values are hypothetical. They do not reflect fees and charges associated with an actual investment. Had fees and charges been reflected, the values would be lower. You cannot invest directly in an index. * The Standard & Poor s 500 Index is an unmanaged measure of common stock total return performance in the U.S. 4

8 An Alternative Approach Let s take a look at an alternate approach to see if Robert could achieve a better result by modifying his distribution strategy. Under this approach, Robert will avoid taking distributions from the retirement account in those years that follow a negative return on the account assets. By avoiding distributions in these years, the impact of the negative market returns on Robert s account over the period would be far less. In fact, by reducing his distributions in the account by a total of $500,697, Robert s account value at the end of the 15-year period has increased from $900,642 to $3,353,353. But this raises the question of where Robert s supplemental retirement income will come from in those years when he avoids taking income from his retirement account. By reducing his distributions from the retirement account by a total of $500,697, Robert s account value at the end of the 15-year period has increased from $900,642 to $3,353,353 an increase of $2,452,711 or about 272%. Robert s Retirement Account Alternate Approach Age Beginning of Year Balance Systematic Withdrawal on 1/1 Post Withdrawal Balance S&P 500 Return End of Year Balance 65 $2,000,000 $ 150,000 $ 1,850, % $1,576, ,576, ,576, % 1,158, ,158, ,158, % 1,590, ,590, ,000 1,440, % 1,782, ,782, ,000 1,632, % 1,512, ,512, ,512, % 1,612, ,612, ,000 1,462, % 1,734, ,734, ,000 1,584, % 2,077, ,077, ,000 1,927, % 1,833, ,833,276 77, ,756, % 2,126, ,126, ,000 1,976, % 2,419, ,419, ,000 2,269, % 2,408, ,408, ,000 2,258, % 2,982, ,982, ,000 2,832, % 3,359, $ 3,359,901 $ 172,303 1 $ 3,187, % $ 3,353,353 Assumptions: Beginning value $2 million; $150,000 Annual Systematic Withdrawal (except in years that follow negative returns), $100,000 Annual Income Net Taxes 33%; S&P 500 Historical Performance from ; The S&P 500 Index is a list of securities frequently used as a measure of U.S. stock market performance. These investment results and account values are hypothetical. They do not reflect fees and charges associated with an actual investment. Had fees and charges been reflected, the values would be lower. You cannot invest directly in an index. 1 These values represent the required minimum distribution from the IRA in that year under federal tax law. Minimum distributions based on the total value of all IRA assets will be required beginning in the year following the year that the account owner turns age 70½. Failure to make the full required minimum distribution will result in an excise tax equal to 50% of the shortfall. 5

9 How Can You Prepare For a Bear Market in Retirement Today? In order to implement this strategy, Robert will need an alternate source of income that is not significantly impacted by short-term market volatility. Options might include certificates of deposit (CDs) and other conservative savings vehicles. These types of assets may offer lower overall investment returns over the long run when compared to equities, but they represent a stable source of income that is essential to Robert s retirement income distribution strategy. When Robert was in his mid-40s, an insurance needs analysis indicated that he should consider the purchase of additional life insurance death benefit protection. A participating whole life insurance policy with a limited premium payment period could provide the pre-retirement income protection that he needed, and accumulate cash value to provide supplemental retirement income. 2 Participating whole life insurance offers guaranteed policy cash values and the potential for additional cash value funded with policy dividends, which are not guaranteed. The policy cash values can provide a stable source of supplemental income that is not impacted by short-term market volatility. A Death Benefit Plus Cash Accumulation Let s assume at age 45, Robert purchased a $1,000,000 whole life policy with premiums payable to age 65. He paid the guaranteed annual premium of $27,790 to age 65, when the policy is fully paid-up. In addition to meeting his protection needs, the policy will accumulate cash value on a tax-deferred basis for retirement. During retirement, Robert will take partial surrenders of cash value from the policy in those years that he avoids taking income from his retirement account. Since the partial surrenders illustrated represent a return of Robert s cost basis in the policy, these payments will be income tax free. 2 This means that a $100,000 partial surrender from his policy is equivalent to a $150,000 withdrawal from his retirement account on an after-tax basis, assuming a 33% marginal income tax bracket. Whole life insurance can provide tax-deferred accumulation of policy cash values and tax-free retirement income via partial surrenders up to the policy cost basis. In addition, the income tax-free policy death benefit can protect your income during your working years, and ultimately ensure your legacy to your family. These advantages make whole life insurance a good choice for people who can benefit from the protection, cash accumulation and tax advantages that the product offers. An additional layer of protection You can add an additional layer of protection with the optional Waiver of Premium Rider. MassMutual will waive your policy s premiums if you, as the insured, become totally disabled and can t work. If your premiums are waived due to disability, your policy s cash value will continue to grow at the same rate as if you were still paying the premiums. The Waiver of Premium Rider is available for an additional cost. 2 Distributions under the policy (including cash dividends and partial/full surrenders) are not subject to taxation up to the amount paid into the policy (cost basis). If the policy is a Modified Endowment Contract, policy loans and/or distributions are taxable to the extent of gain and are subject to a 10% tax penalty if the policyowner is under age 59½. Access to cash values through borrowing or partial surrenders will reduce the policy s cash value and death benefit, increase the chance the policy will lapse, and may result in a tax liability if the policy terminates before the death of the insured. 6

10 Robert s Whole Life Policy Whole life with premiums payable to age 65 Male Age 45 Select Preferred Non-Tobacco $1,000,000 Face Amount Annual premium, including Waiver of Premium Rider: $27,790 Age End Year Annual Surrender Beg Year 3 Net Cash Value End Year 4 Net Death Benefit End Year 4 66 $0 $ 804,169 $1,437, , ,127 1,297, , ,603 1,157, ,896 1,193, ,060 1,230, , ,770 1,101, ,233 1,136, ,489 1,171, ,623 1,209, , ,163 1,173, ,557 1,210, ,826 1,249, ,017 1,290, ,106 1,331, $0 $1,045,095 $1,375,487 3 Partial surrenders of $100,000 during years following negative performance. Partial surrender at age 75 is less than $100,000 to reflect required minimum distribution from the IRA of $77,000 in that year. The remaining $73,000 of gross income is equivalent to a $49,000 tax-free partial surrender from the policy, assuming a 33% marginal tax bracket. 4 These values include dividends which are neither estimates nor guarantees, but are based on the 2017 dividend schedule. The dividend schedule is reviewed annually and it is likely that dividends in future years will be lower or higher depending on the Company s actual experience. For this reason, we strongly recommend that you look at a hypothetical lower schedule illustration available upon request. This supplemental illustration is not valid unless accompanied by the basic illustration in the back of this brochure. Refer to it for assumptions, explanations, guaranteed elements and additional information. 7

11 Whole Life Insurance vs. Alternative Options Buying whole life insurance was one way for Robert to help meet both his pre-retirement protection and supplemental retirement income needs, but how does this compare to alternative options that were available to him? What if Robert had purchased a less expensive term life insurance policy to meet his protection needs and invested in CDs or other conservative savings vehicles to satisfy his supplemental retirement income need? Let s assume that instead of purchasing the whole life policy at age 45, Robert purchased a $1,000, year term life insurance policy with guaranteed premiums to age 65. He then invested the difference between the whole life premium and the term premium in a taxable account each year until age 65 which earned 5% each year until he turned age 80. The annual premium for the 20-year term policy is $1,845. The whole life premium was $27,790. The difference that Robert had to invest each year over the 20 years was $25,945. Let s take a look at how these two alternatives compare at Robert s age 65 and beyond. Whole Life Insurance vs. Taxable Account & Term Insurance 8 Age End Year Annual Surrender Beg Year 5 Robert's Whole Life Policy Net Cash Value End Year 4 Net Death Benefit End Year 4 Side Fund Account Withdrawals 5 Taxable Account & Term Insurance Side Fund Account Balance 6 Term Policy Death Benefit 66 $0 $ 804,169 $1,437,377 $0 $771,730 $ , ,127 1,297, , , , ,603 1,157, , , ,896 1,193, , ,060 1,230, , , ,770 1,101, , , ,233 1,136, , ,489 1,171, , ,623 1,209, , , ,163 1,173,074 49, , ,557 1,210, , ,826 1,249, , ,017 1,290, , ,106 1,331, , $0 $1,045,095 $1,375,487 $0 $713,256 $0 Whole Life Legacy 65 SM Male 45 Select Preferred Non-Tobacco $1,000,000 Face Amount $27,790 Annual Premium. Vantage Term 20 Male 45 Select Preferred $1,000,000 Face Amount $1,845 Annual Premium. Assumes term policy is not renewed at age 65 when the guaranteed level-premium period ends and the annual premium increases. All insurance policy premiums include the cost of Waiver of Premium Rider. 5 Account withdrawals or partial surrenders of $100,000 taken during years following a negative return on IRA assets. Age 75 value reflects the required minimum distribution from the IRA of $77,000 and the remaining $73,000 of gross income that is equivalent to an after-tax value of $49,000 assuming a 33% marginal tax bracket. 6 Taxable side fund account based on 5% annual return (net of investment expenses) and an income tax rate of 33%.

12 Summary What if Robert had purchased a less expensive term life insurance policy to meet his protection needs and invested in COs or other conservative savings vehicles to satisfy his supplemental retirement income need? While the "buy term and invest" approach may provide the income that Robert needs, under the assumptions made in this comparison, he would end up with more cash and a larger net legacy to his family at death in every year illustrated by purchasing the whole life policy. The charts below illustrate these differences at his ages 66 and 80. Is This Strategy Right For You? Whole life insurance offers guaranteed policy cash values and the potential for additional cash value funded with policy dividends. The policy cash values can provide a stable source of income that is not impacted by short-term market volatility. This supplemental retirement income 2 strategy could be right for you if: You have a protection need that life insurance can meet and you understand the role of life insurance as part of your overall plan. You recognize the value of a product with guarantees and cash values that you can access on a taxadvantaged basis for supplemental retirement income. You want to ensure your legacy to your family by providing an income tax-free death benefit. The following Whole Life Legacy 65 Basic Illustration represents a hypothetical participating policy with premiums payable to age 65 issued by MassMutual. This illustration should only be used as a reference that supports the values in this brochure. It's not meant to represent any particular individual's situation. If you'd like to learn more, ask your financial professional for a personalized illustration based on your specific situation. 9