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How does your retirement equation work? When you finally retire, does your financial life go on autopilot, subject to precise mathematical rules?

Or, is the retirement equation more a guideline than prescription? So your financial life after retirement is subject to a set of variables, but the end result — exactly how your wealth will grow or decline — is never precisely predictable….

In my experience, talking with many people nearing retirement, and hearing how they are advised by financial professionals, I see a stronger tendency to the first view of retirement than the second.

Financial advisers like to project certainty: They collect all your relevant financial numbers, punch them into the computer, and give you a 50-page printed report complete with graphs and projections. So financial independence and retirement become a “yes” or “no” proposition. Either you have enough, or you don’t.

But that’s not my experience of retirement, or the experience of many other early retirees that I know. Retirement is not a static equation with a simple “yes”/”no” answer. Rather it’s a journey or process.

The bad news is that you must pay attention and take care to avoid bad outcomes. The good news is that you’ll have plenty of warning if things are going in the wrong direction. Ultimately you can live a flexible lifestyle that suits you best, while making adjustments along the way, as necessary.

Let’s take a look at some of the levers you can pull to control your money in retirement?.

Expenses

One of the most obvious levers in retirement, and before, is your cost of living — how you spend money.

This personal finance variable is the one most clearly under your control. Not a day goes by in most of our lives where we don’t make decisions about how to spend our money.

Most of us live in the prosperous western world and enjoy a lifestyle that, even for the middle class, would appear royal to our ancestors. That means that a great deal of our spending is truly optional.

In retirement now, my own essential expenses boil down to groceries, insurance, medical, personal, rent, taxes, utilities, and transportation. But even within those categories there are many “luxuries” that we could do without — that we did do without for most of our younger lives: Our “transportation” expense is largely gas and car maintenance that enables discretionary vacation travel. At the grocery store, we buy the best quality fresh and organic foods.

My discretionary expenses include contributions, gifts, furnishings, miscellaneous, clothing, recreation, dining out, and travel. Those categories constitute a few thousand dollars of spending most months, that we could easily trim back or eliminate for a while if absolutely necessary.

For many, a good chunk of the housing category could be discretionary. Most retired couples could be perfectly happy in a modest 2-bedroom townhome with a small yard. We are right now. Yet many baby boomers continue to live in much larger houses far into retirement. It’s their right, and many feel it adds to their quality of life. But it’s far from essential.

A final discretionary cost that most people can ill-afford in retirement is investment fees. High investment expenses are a serious drag on financial independence. A seemingly innocuous 1% fee on your assets could actually constitute 25% of your available retirement income each year! Are you really OK sharing that much of your retirement lifestyle with your advisor? If not, reducing investment expenses is a lever you can easily pull to improve your financial position in retirement.

Withdrawal Rate

Multiply your monthly expenses not covered by Social Security, pension, or an annuity by 12. Divide that number by your net worth (less your house, if you’re living in it). The result is your withdrawal rate. This is a lever you can pull indirectly in retirement because you have some control over your expenses, which we just discussed. Change your expenses and your withdrawal rate changes, assuming your net worth stays relatively stable.

But there’s another aspect of your withdrawal rate that you control directly. That’s the risk that you are willing to take of running out of money or reducing your lifestyle.

This is a subtle point that I explain in more depth in my second book. The underlying concept is that retirement security is a matter of probabilities. There is no definite answer for how long your money will last. Just a range of possible outcomes.

Thus, you can choose your withdrawal rate within a certain range generally supported by research. In my opinion that’s about 3-5%. If you choose the lower end of that range, your retirement will be quite safe. If you choose the upper end, you will have to keep a closer watch: If there is an extended economic downturn, you are more likely to need to ratchet down your lifestyle. Otherwise, you could run out of money in the end. Though you’ll have plenty of warning before that happens.

The article I wrote describing my Retirement Flexibility Scale goes into more detail on this concept, and offers guidelines for assessing your own situation. But the bottom line is this: You get to choose your withdrawal rate (within a reasonable range) as a function of the risk you’re willing to accept to your lifestyle. And, unless someone has figured out how to predict the future, they can’t really say that you’re “right” or “wrong.” It’s a personal decision.

Income

Regular income is as much a necessity when you’re retired as when you were working. But unlike the days when you were receiving a steady paycheck, the timing and amounts of income you generate in retirement can be more under your control.

The most clear-cut example is harvesting capital gains. If you’ve accumulated substantial savings invested in the stock market, you will need to sell those positions gradually in retirement to generate cash for your living expenses. When you sell, if the positions have appreciated in value, as they almost surely will over any long time span, the growth will be considered a capital gain. And that gain is taxed at different rates, depending on your tax bracket.

So capital gains are income where you control the amounts and timing. As long as you aren’t living hand to mouth in retirement — a particularly bad idea — you’ll already have months or years of cash on hand. The exact timing of when you add to that cash stockpile is under your control. If you’ve had a high income year already due to other factors, you can push the sale of further assets into the following year. If you’ve had less income in a given year, especially if you’re underneath a critical tax bracket threshold, you might decide to sell some assets in that year.

Another obvious way to control your income in retirement is by working. Shocking! Retirees aren’t supposed to be working, are they? Yet Chris and I have explored in numerous articles that it is rarely wise for retirees, especially early retirees, to abandon work altogether. Though, being “retired” means you can choose your work carefully. Obviously it will be part-time, and ideally it will be something enjoyable and/or rewarding.

It turns out that some work can be advantageous, if not essential, for your mental and financial health in retirement. It gives you one more reason to get up every day and be involved in the world. And it provides a possibly scalable income stream, if your retirement finances don’t go as planned.

What about annuitizing or taking out a reverse mortgage? In both these cases you are exchanging a valuable asset (cash or your home) for a steady income stream. Once you commit, you usually have little control over the resulting income: it is generally locked in for life and cannot be changed.

So once you buy an annuity or sign for a reverse mortgage, you have given up control of a substantial retirement lever. But the decision as to when and how much of an annuity to buy is a hefty lever at your disposal until you pull it. Optimizing that decision is a challenge I am facing and hope to write about in the future, as others already have here.

Social Security

A related decision in a special class of its own is when to take Social Security. Most, though not all, Americans have paid into this system and will face this decision at some point.

You can choose to take Social Security anytime between ages 62 and 70. The longer you wait, the more you’ll get, but the fewer years you’ll get it for (before you die). Further, the growth in payments should you wait, which is a guaranteed return on investment, is quite attractive, even compared to stock market returns. On the other hand, some people fear the government will renege on its commitments (I think this is highly unlikely) or fear for their own health , which motivates them to take Social Security earlier.

What will you do? How do you decide? I won’t go further down this rabbit hole here and now. If you want more information, I highly recommend Mike Piper’s excellent calculator and book.

Social Security is one of the most important retirement levers many of us will pull. With my wife Caroline turning 62 next year, this is a decision that we will be working through all too soon. Next spring we’ll be running Social Security calculators and analyzing our own situation. I expect to write about the process and share the results here?.

Tax Rate

The taxes you pay in retirement are another important lever under your control. Yes, the government dictates non-negotiable tax rates. But the government also puts into place a bewildering thicket of rules and regulations that create options for how you declare income and expenses throughout the year. Those options give you significant control over your taxable income, the tax bracket you’re in, and how much tax you pay.

This is a vast subject and one that I claim no particular expertise in. As I’ve said from my earliest days with this blog, I really don’t sweat taxes in retirement. Part of the reason is that it’s actually easy to pay low (if not the lowest possible) taxes in retirement. I’ve done it virtually every year since I retired, paying an overall effective tax rate, the last time I checked, of less than 5%.

How is this possible? Primarily two mechanisms: (1) account withdrawal order — withdrawing primarily from taxable accounts where the original deposits were already taxed, and deferring as long as possible my withdrawals from traditional retirement accounts where every dollar is taxed as it is withdrawn, and (2) filling up the first two tax brackets with long-term capital gains taxed at a 0% rate.

As Early Retirement Now explains in a detailed article on income taxes in retirement, with the standard deduction for married couples in 2019 of $24,400, and the top of the 0% tax bracket for capital gains and qualified dividends at $78,750, it’s possible to have six digits of income without paying federal income tax! (There are further wrinkles if you have kids or file for Social Security, which the article explores in depth.)

Chris too has written here about managing your income to optimize using ACA benefits. If you’re buying health insurance on the ACA exchanges and have a “middle-class income” that might cross various critical thresholds, it’s well worth understanding the issues.

As with anything the government touches, the tax code embeds layer upon layer of complexity. Some of us prefer to surf along the top, take the obvious benefits, and not spend time gaming the system. Others delight in paying the absolute minimum taxes, even if it means hours of work and reams of paperwork. Pick your poison.

The bottom line is that, as a retiree, you have considerable control over the taxes you do pay.

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So we’ve discussed most of the major levers you can pull in retirement to control your finances. But that’s not all. Surprisingly, there are still a handful of variables to discuss. Most people consider these out of their control. But they aren’t. Turns out, you are more in charge of your destiny than you might think. Let’s discuss three more levers before we wrap up?.

Investment Returns

It’s a truism that none of us can control or predict how the economy will do, or what the market will return. I’ve been reading and writing in this space now for more than 20 years and I have yet to see convincing evidence that anybody can predict market returns in advance.

Or perhaps the more accurate way to say it is that there is no evidence that you can pick, in advance, an “expert” who will correctly predict market returns. Sure, some of them will get it right. You just don’t know which ones will in advance. And they won’t be the same each time.

If you think your hand-picked financial advisor can outperform the market, think again.

But there is one factor over which you do exercise a great deal of control. It directly relates to your ultimate returns from the market. And that is risk. Most specifically and practically, your asset allocation.

To simplify, the percent of stocks in your portfolio is a rough measure of the risk you are taking on. The more stocks, the more you are likely to make over time, but the more your portfolio will fluctuate. And the greater the risk that you won’t be able to achieve short-term objectives with your money.

The less stocks (and more bonds typically), the lower the risk, the lower the returns, and the greater the odds that you can achieve (modest) financial objectives.

So this is another lever you can throw in your retirement — your asset allocation. If you are relying on your portfolio for cash flow in the short-term, it would be advisable to push the lever more towards cash and bonds. If you have the luxury of not touching your investments for many years, then you are free to pull the lever largely for stocks, understanding that it could be a wild ride.

Inflation Rate

How could the general rate of inflation be a lever that you control in retirement? Isn’t that economic variable a function of the economy, and totally out of our control?

Not exactly. It’s true that we don’t control what the government reports as the official inflation rate. But that doesn’t mean we have no control over how it affects us. I wrote years ago about the concept of a personal inflation rate.

I just didn’t see the inflation in my own life corresponding exactly to government figures. I still don’t. If something gets more expensive, I often have the option to switch to a less expensive substitute. And, as a professional and personal geek, technology, one of my biggest expenses over the years, tends to get cheaper over time.

In my experience, part of how inflation affects you is personal. You can see it happening, and you can make adjustments. You can use less, or you can substitute.

You also have complete control over how you inflate your own lifestyle. If times are good, I see nothing wrong with splurging on one-time purchases. But be careful about incrementing your living expenses over the long term by buying expensive assets with high maintenance costs (like houses and luxury cars) or committing to recurring expenses like memberships and subscriptions.

In another old article, on debt, I explored how inflation impacts savers and borrowers differently. As a prospective or near retiree, you are a net saver. Inflation is not good for us. It tends to benefit those who borrow, and pay that debt back with less valuable dollars over time. But there are still more levers you can pull to protect against inflation: put money in real estate, stocks, or inflation-protected bonds, for example.

Life Expectancy

There is one last important lever you can pull in retirement. This one is a paradox, because you can adjust it, but you can never know the outcome for certain. Whatever modest success the fortunate among us have in controlling this variable, we all ultimately must answer to our destiny.

I’m talking of course about lifespan: Our lives will end, and none of us knows exactly when. That is the human condition.

The good news is that we live in times of unprecedented average life expectancy. We are awash in information, tools, strategies, and products for extending the quality and quantity of our lives.

Much of it boils down to a few simple habits: eat healthy, exercise regularly, reduce stress.

In my experience, these are the ultimate levers you can pull to control the quality of your retirement. With good health, you can enjoy the fruits of your other financial adjustments as you age. Without good health, all the financial fine-tuning in the world could be for naught.

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[The founder of CanIRetireYet.com, Darrow Kirkpatrick relied on a modest lifestyle, high savings rate, and simple passive index investing to retire at age 50 from a career as a civil and software engineer. He has been quoted or published in The Wall Street Journal, MarketWatch, Kiplinger, The Huffington Post, Consumer Reports, and Money Magazine among others. His books include Retiring Sooner: How to Accelerate Your Financial Independence and Can I Retire Yet? How to Make the Biggest Financial Decision of the Rest of Your Life.]

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