So far, in our tale of three families, we’ve examined two of the three parts of a spending spectrum. But what are the recommendations when we encounter a family that is living well within their means?
In Part II, the Spendy Spellmans fell on the aggressive end of that spectrum, spending beyond what they make. The suggestions for the Spellmans were relatively obvious. For starters, spend less.
Then, in Part III, we met the Balanced Bennetts, who, as their name suggests, landed in the middle, saving more than they spent and positioning themselves well for retirement. Their recommendations came down to optimizing in the present day to even better prepare for retirement and potentially save on taxes.
Which leads us to our third and final family in our fictional example. This family occupies the opposite side of the spectrum as the Spellmans. They’re saving $80,000 per year in tax-advantaged accounts, and yet, they still have more than $30,000 left over for additional savings.
We’ve already met the Frugal Franklins in Part I of “A Tale of Three Families,” but in this segment of our story, we’ll dive headlong into their finances. We’ll get an idea of the financial planning analysis at retirement age. Plus, we’ll see the recommendations that may come from a financial advisor had they chosen to start working with one at age 30.
The Franklins: Finances at a Glance
Fred (30) & Francine (30); Children: Floyd (3) and Freida (newborn)
Net Worth
- Combined 401(k) balances: $300,000 invested in an 80% stocks/20% bonds portfolio
- Additional Investment Assets: $70,000
- House (purchased this year)
- Value: $400,000
- Equity: $80,000
- Mortgage: (320,000) 30-yr fixed at 6%
- Total Net Worth: $450,000
Income & Spending
- Gross Income: 300,000 ($150,000 each)
- Expenses:
- Housing (mortgage + real estate taxes): $28,328
- Additional Spending: $90,000
- Taxes (Federal, State & FICA): $68,669 (note their taxes are slightly higher than the Bennetts because, unlike the Bennetts, they have a taxable investment account that yields taxable investment income)
- Tax-Advantaged Savings: $80,000
- 401k: $46,000 (maxing out)
- Backdoor Roths $14,000
- 529 Plans $20,000
- Left Over Money for Additional Savings: $33,003
The Franklins’ Financial Planning Analysis Retirement
The Franklins are relieved to hear that they’re in great shape and can retire. In fact, they have amassed a great deal of wealth and could easily triple their spending without having to worry about jeopardizing their financial situation.
The Franklins have lived frugally for so long that they are so glad to hear this. But because they’ve grown accustomed to their lifestyle, they also can’t imagine spending more money than what they spend now.
The financial planner gives them similar recommendations that she gave the Bennetts on Social Security, 401(k) rollovers, Roth conversions, and continuing to meet at least once a year.
- Delaying Social Security Benefits: Even though they are retiring now at 65, the financial planner advises the Franklins to wait until age 70 to start taking their Social Security benefits. Each year that they put off taking Social Security (up until age 70) their benefit will increase by 8% each year in addition to the annual cost of living increase provided by the Social Security Administration. This is especially important because, like the Bennetts, the Franklins are in good health and likely to live into their 90s. Though their financial picture makes it unlikely they will outlive their money, the larger Social Security benefits starting at age 70 could help them pass even more money onto their children and grandchildren.
- 401(k) Rollovers: They should consider rolling their 401(k)s into IRAs since they are separating from their employer. The planner reviews their specific 401(k) plan details and explains all of the pros and cons of rolling over the assets, delving into the differences in fees and investment options.
- Partial Roth Conversions: They should also consider doing partial Roth conversions over the coming years. The timing of those conversions should be before they start taking Social Security and the start of Required Minimum Distributions (RMDs) from their traditional retirement accounts. Over the next few years, before they turn 70, the Franklins will be in an unusually low tax bracket. A partial Roth conversion would capitalize on this by moving small portions each year from traditional retirement assets into Roth assets.
Alternative Scenarios: Implementing Recommendations in the Present
Let’s move back to the present day when the Franklins are 30 years old. Rather than working with a financial advisor who provides only investment management, what would happen if the Franklins chose to work with a financial advisor who provides both comprehensive financial planning and investment management?
While the Spellmans needed quite the overhaul, the Bennetts didn’t need to make changes, though they could benefit from optimizations at age 30. And, not surprisingly, the Franklins are in a similar position as the Bennetts. Here are the recommendations the planner has for the Franklins:
- Roth 401(k): The planner could help the Franklins determine if they have access to a Roth 401(k) through their employers. If they do, the planner could walk them through the pros and cons of making some or all of their 401(k) contributions as Roth contributions rather than all pre-tax contributions.
- Saving for college: In our fictional scenario, the Franklins made great use of 529 plans, stockpiling $20,000 per year (in present-day dollars) into the plans. Rather than simply contributing a fixed amount, the planner could help them determine the financial goals behind the 529 contributions. Is the plan to pay for the kids’ entire college? Or do they want their kids to take on some responsibility for paying for their education? There is usually a huge difference between a public, in-state education versus a private or out-of-state education. Additionally, there are some major downsides to overfunding the 529s, but also several solutions to addressing potential over-funding. These are all things the planner would discuss with the Franklins and give them more guidance on.
- Starting Roth IRAs for their children: As their children become teenagers and start earning some income from summer or after-school jobs, the financial planner could guide the Franklins on starting their kids’ retirement savings. This also could serve as a way to educate the kids on money and saving for the future.
- Tax & estate planning: The financial planner could partner with the Franklins’ tax accountant and estate attorney (or help them find an account and estate attorney) to ensure they are taking advantage of the most up-to-date tax and estate laws.
Beyond these recommendations that applied to both the Franklins and Bennetts, the planner could also provide three potential scenarios for the Franklins to consider.
- Increase current spending levels: Given what incredible financial shape the Franklins are in and their tendency to live well within their means, the planner could help the Franklins understand that they can spend more money (if they want to) without jeopardizing their financial situation. The advisor could give them very specific dollar amounts of how much additional money they could spend each year.
- Retire sooner: If the Franklins are happy with their current levels of spending, the planner could show them that they could retire sooner than age 65. To demonstrate the possible scenarios, the advisor would model the relationship between incremental increases in spending and the corresponding age at which they could retire early, given that additional spending.
- Make a large purchase: Maybe the Franklins would like to consider purchasing a vacation home (or really any other large purchase, depending on what the Franklins truly want). The planner could show them how that would impact their plan and guide them on how much they could spend on a second home.
As I alluded to, these three scenarios may not be mutually exclusive. There is the possibility they could increase spending, purchase a vacation home, and still potentially retire early. By working with a financial planner, they could better understand which option, or options, they may want to take and what the specifics would look like.
Wrapping Up Part IV
While we saw some semblance of the Bennetts’ optimizations in the Franklins’ scenario, the example of the Franklins is particularly helpful in understanding the doors that open when you’re in great financial shape.
In one extreme, the Spellmans would be lucky to retire on time at age 65 without making some cutbacks in their current lifestyle and spending. On the opposite side of that extreme, the Franklins didn’t need to cut back at all. In fact, they could increase their current spending and potentially retire earlier than 65. Not to mention, they would likely have a substantial amount of money to pass on to their children and grandchildren.
Now that we’ve looked at these three potential scenarios, it’s time to take a step back to examine the key lessons at play in the first four parts of our series. We’ll release our fifth and final part of “A Tale of Three Families” on Jan. 21. In the final installment, we’ll extrapolate lessons you can implement in your own financial life. You can sign up for an evenly-paced version of the series by subscribing to my newsletter here.
Looking to dive into your finances? Or need a second look at your current financial plan? You can book a free consultation with me here.
About the author
Carla Adams is aCERTIFIED FINANCIAL PLANNER™ practitioner who specializes in helping women build strong financial plans around their equity compensation, including Restricted Stock Units (RSUs) and company stock options. With over 15 years of experience in financial services, Carla has in-depth knowledge and expertise geared toward helping clients with complex financial situations. She enjoys boiling down complicated scenarios through practical examples and down-to-earth conversations.