As a well-paid corporate executive, you might think that shifting into retirement will be a breeze.
But even with enough money to retire, there are concerns facing corporate executives, which can turn that calm breeze into choppy gusts. For a smoother ride, be prepared to do some planning many years before you retire.
A good place to start your planning before retirement is to calculate how much money you need. To answer this, look at what your take home pay is and subtract out any current savings. Current savings can consist of contributions to an IRA (Roth IRA), contributions to a taxable investment or savings account or extra principal payments. From this, subtract estimated amounts for additional retirement income such as Social Security, pensions, or rental incomes. This will provide a good idea of what you need on an after tax basis to live on during retirement. Typically, this works out to be 60%-80% of your pre-retirement income. But having enough money to retire is not all there is to it.
One of the biggest issues facing a corporate executive is figuring out what to do with your large position in the company stock or company stock options. Just like any other stock, owning a large position in a single stock is risky business. It leaves you with an unbalanced portfolio, that’s subject to wild swings.
Look at the standard deviation of your portfolio with and without the large position in the company stock. There are techniques to hedge your large position by using stock options and equity collars. These methods can become complicated and usually require the assistance of an investment professional and accountant.
Company stock options such as incentive stock options or non-qualified stock options are even more risky because of the leverage factor. Here is an example to explain leverage:
Suppose you own 5,000 stock options that are vested, and the option price is $30 per share with a current stock price of $50. When the stock price is $50, your options are worth $100,000. Suppose the stock drops $10 overnight – a gap opening after bad news comes out after the close and the first trade the next day is $40 per share – your options are now worth $50,000, which is equal to a 50 percent drop.
If you owned 2,000 shares of stock at $50 per share, your investment would be worth $100,000, but if the stock dropped $10 per share to $40, your investment would be worth $80,000, or a drop of 20 percent. You can see how the same $10 drop magnifies the dollar and percentage drop in the option versus the stock example.
Looking at your entire investment portfolio, you should create a plan to diversify your large position many years before you retire so when the time comes, your plans are not derailed because the stock has dropped. Coordinate your plan to diversify with your wealth advisor, accountant and your company’s compliance department. All corporate executives are passionate about their company stock, but people in general are talking about different stocks, which collectively make up the market as a whole. You need to have a plan to take the emotion out of selling the stock because emotion can lead to irrational investment decisions.
You also need to figure out how much you need in retirement and make sure your “withdrawal rate” is reasonable. A safe withdrawal rate depends on your time frame and how aggressive or conservative your portfolio is structured. Typically, a safe withdrawal rate is on the order of 4 percent of the value per year for a well-diversified portfolio of stock and bond funds. This should last around 30 years if you maintain a well-diversified portfolio, maintain your discipline and continually rebalance your portfolio.
Making the smooth transition is by no means a quick and easy process. To facilitate a smoother transition into retirement, there are a few more steps you can take. The most crucial step is to consolidate your assets, which should help make the creation of your retirement paycheck easier.
Finally, you will need to create a diversified portfolio that will provide you with your sustainable withdrawal rate and your retirement paycheck. Coordinate with your wealth advisor and accountant to design a plan to withdraw money from your different accounts on a tax-efficient basis. Rebalance your portfolio as you periodically withdraw your money.
Financial issues aside, possibly the hardest question to answer for corporate executives is what do to with your free time? Frequently, your job has become your identity. Like the Major League Baseball World Series slogan “I live for this.” You must discover what you live for? Why do you work and earn money? This is something you should begin thinking about years before you retire.
The retirement process is complicated and overwhelming. Know that it is possible to create a sustainable, enjoyable retirement.
Robert J. Pyle, CFP®, CFA is president of Diversified Asset Management, Inc. (DAMI). DAMI is licensed as an investment adviser with the State of Colorado Division of Securities, and its investment advisory representatives are licensed by the State of Colorado. DAMI will only transact business in other states to the extent DAMI has made the requisite notice filings or obtained the necessary licensing in such state. No follow up or individualized responses to persons in other jurisdictions that involve either rendering or attempting to render personalized investment advice for compensation will be made absent compliance with applicable legal requirements, or an applicable exemption or exclusion. It does not constitute investment or tax advice. To contact Robert, call 303-440-2906 or e-mail firstname.lastname@example.org.
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