dsmWealth: March 7, 2024

Millennials feel inflationary squeeze more than others
BY STEVE DINNEN

Over the past couple of years, nearly everyone has felt the squeeze of inflation in one way or another. But millennials have felt a stronger squeeze than other generations, according to recent research.

For starters, millennials, now in the their mid-20s to mid-40s, have felt the pinch of rising costs for child care. The Economic Policy Institute notes that Iowa parents annually spend an average of $10,378 on child care for each child. (In the 1960s, my stay-at-home mother paid exactly nothing).

Many millennials are also still paying back college loans, a decade or more after graduation.

Besides that, social media has had a profound impact on millennial spending habits. Observers say sites like Facebook and Instagram have fueled discontent and a desire to keep up with the Joneses. Your home may not be for sale, but websites like Zillow assign a value to it that can be seen by all your friends, and mimicked by them with a new mortgage that costs far more than it would have just two or three years ago.

“They take on debt because they don’t want to miss out on life’s events,” said Emily Irwin, managing director of advice and planning at Wells Fargo. “They think, ‘How do I take what I’m making and fund the lifestyle I want to live?’”

According to a recent Wells Fargo survey on spending habits among those born between 1981 and 1996:

More than half of affluent millennials (who have at least $250,000 in investible assets) say they’ve been greatly affected by the cost-of-living crisis. Gen X, baby boomers and silents all report lower pain points here.

Three in five say it’s important to “look or appear” to be finally successful to others. This influences the way they dress, the homes they buy and the cars they drive.

A third say they sometimes lie about or exaggerate their income or savings or spending in order to maintain an appearance of financial success.

Forty percent have taken on more debt than they want in order to live larger.

But there’s hope. Inflation is cooling. Millennial parents will soon cast off child care expenses when they’re kids are a little older (and start marching toward a fresh batch of college expenses).

The net worth for someone over 35 is five times greater than someone under 35, so many millennials will be more equipped to power through financial distress. And they’re using those social media skills to track down advice on spending versus saving, needs versus wants and household budgeting.

As Irwin put it, “I’m confident they’ll be able to figure it out.”

Millennials could soon become the wealthiest generation ever
BY STEVE DINNEN

Despite their current financial challenges, a lot of millennials do have some financial lifelines. They’re called mom, dad, grandma and grandpa.

Between now and 2044, the Silent Generation (born 1925-1945) and baby boomers (1946-1964) are expected to pass along significant wealth, a staggering $90 trillion, to their millennial offspring. This will make millennials (1981-1986) the richest generation in history, according to the periodic “The Wealth Report” from global property consultant Knight Frank.

Ultimately, this shift in wealth is a result of inheritance from prior generations — mostly property but also other kinds of assets. The coming shift will bring “seismic” changes to how wealth is put to use, said Liam Bailey, who leads global research for Knight Frank.

The research also shows that affluent young people are less likely to see property or real estate as a way to build wealth in the future.

“The low interest rate environment and impressive growth in house prices over the past 15 years is unlikely to be repeated in the next 15,” Mike Pickett, director of Cazenove Capital, said in the report.

There’s evidence, Pickett added, that the following generation, Gen Z (1997-2012), may be more comfortable renting a home, leasing a vehicle and living a subscription lifestyle than prior generations. Not only will wealth be transferred to these younger people, but they’ll have a variety of new ways to build wealth.

Keeping a mortgage after 65: a 'no brainer' or a big risk?
BY MARTHA C. WHITE FOR THE NEW YORK TIMES

Conventional wisdom dictates that retiring with debt — especially a debt as large and significant as a mortgage — is financially dicey at best and potentially ruinous at worst.

That’s not how Brian Lindmeier sees it. “It just doesn’t make any sense at all to pay off the house,” he said.

Lindmeier, 80, a retired purchasing and inventory manager, and his wife, Cindy, who retired from the local public school system, refinanced their home in Orange, California, at the end of 2020. They rolled over their balance into a new 30-year loan and slashed their interest rate in half to a rate below 3%. Lindmeier called the move a “no brainer.”

“The money I’d have to take out of my savings or out of my investments is yielding higher interest than the interest I’m paying on the loan,” he said.

For a growing number of older Americans, signing up for a mortgage that is likely to outlive them makes good economic sense. A significant percentage of homeowners have fixed-rate mortgages with historically low rates. Roughly six of 10 mortgage borrowers in the third quarter of last year held loans with interest rates of less than 4%, according to the online real estate brokerage Redfin. Nearly a quarter had rates of less than 3%.

A campaign of rate increases by the Federal Reserve, which is intended to tamp down inflation, has driven yields that investors can get on ultrasafe instruments like certificates of deposit to 5% or higher.

Even those who have spent years saving with the intention of paying off their mortgages with a lump sum at retirement are now finding themselves recalculating. Some are determining that those funds would be better deployed by earning returns on other investments or helping them meet their cash flow needs for everyday expenses.

Eric Zittel, chief lending officer at Financial Partners Credit Union in Downey, California, said a number of his members, including Lindmeier, are keeping their mortgages — and their cash.

“They’re realizing they can get a 4.5% to 5% rate just for a C.D. When you do the math, it makes a lot more sense for them to keep those funds.”

A number of financial advisers and retirement planners argue that the imperative to pay off a mortgage before retirement is an outdated axiom in the current economic climate.

“While paying off a debt feels like a very conservative, secure move, trading your liquidity for a paid-off mortgage is quite risky,” said Evan Beach, president of Exit 59 Advisory, a wealth management firm focusing on retirement-income planning in Alexandria, Virginia. “You’re giving up money in your pocket that you may actually need for something else.”

Gary Jacobs, a client of Beach’s and a retired federal employee, and his wife, Donna, a retired nurse, refinanced the mortgage on their home in Chevy Chase, Maryland, at the end of 2021 when mortgage rates were at a historic trough.

“Timing is everything, and we timed it just right this time,” Jacobs, 79, said. Refinancing into a new 30-year mortgage at a rate roughly half of their previous interest rate lowered the couple’s monthly payment by around $300.

“Although we could have, we didn’t feel like drawing down on our cash reserves in order to pay the mortgage off,” Jacobs said, adding that paying off the mortgage would have taken about half of their savings. “We’re conservative in the sense of wanting to be prepared for eventualities where we might need the cash.”

This dynamic is one factor driving historically large percentages of older Americans to carry mortgage debt into their senior years, according to a new report from the Joint Center for Housing Studies of Harvard University. In 2022, researchers found that just over 40% of homeowners older than 64 had a mortgage, a jump from roughly 25% a generation ago.

Ultralow mortgage rates were a big driver of the increase, said Jennifer Molinsky, project director of the center’s housing and aging society program. “We do think that, for some people, there is a calculated financial decision that they’d prefer to keep their mortgage, even if they could pay it off, and invest it elsewhere,” she said.

But Molinsky expressed concern that the increase came in tandem with an overall rising debt load among seniors. “There’s a trend among all older adults that there’s a higher level of debt across the board,” she said.

The downside of having a mortgage

Retirees on fixed incomes may struggle to manage higher-interest and variable-rate debt like outstanding credit card balances. In a worst-case scenario, if a health crisis or the death of a spouse destabilizes their life or their finances, older Americans could be at risk of losing their homes.

“For a lower-income senior, homeownership can sometimes become challenging, because when people enter their retirement years, they often see a decrease in income,” said Lori Trawinski, director of finance and employment for the AARP Public Policy Institute.

While the recent run-up in home prices has given homeowners more equity on paper, this can pose a challenge for those on fixed incomes since those higher valuations can lead to higher property taxes and insurance premiums.

Some experts in elder finance and policy point out that because a mortgage is almost always the biggest component of a homeowner’s monthly expenses, homeowners in their 50s and 60s have less resilience to absorb a financial hit like an unexpected job loss or caregiving demands.

“Housing is the biggest chunk of that budget for everybody, so it’s undoubtedly more expensive on a month-to-month basis to have a mortgage than to have a home that’s paid off,” said Beth Truesdale, a research fellow at the W.E. Upjohn Institute for Employment Research.

While people might intend to remain employed until they are able to draw Social Security, Truesdale said her research indicates that only about half of American workers remain employed throughout their 50s. This suggests that an income-reducing event is more common than many people expect. While the drop in labor force participation is more pronounced among women and less-educated workers, the employment rate drops by about 20 percentage points among all demographics for people in their 50s.

“Even for people who start out with the advantages, there’s no guarantee they can work as long as they want to,” Truesdale said.

For those who own their homes free and clear, the Joint Center for Housing Studies found that older Americans often struggle to tap the equity locked up in their homes. And those homes might not be as valuable as their owners believe. Trawinski of the AARP said longtime homeowners might be content living with, for instance, outdated kitchens or bathrooms.

“It often happens that people will not do those kinds of upgrades,” she said. Older homeowners might also have mobility limitations or other physical challenges that make maintenance and upkeep of a property more challenging.

Lower-income senior homeowners, who are more likely to be people of color, are also more liable to struggle to pay for necessary repairs and upgrades. “There’s less ability to invest in that property and maintain it over time,” Molinsky of the center for housing studies said. “People need to maintain the value of that asset if they want to use that equity later in life,” but, she added, maintenance can entail significant costs.

The effect that housing costs can have on the average household budget can prompt some people to view a mortgage as a risky obligation to carry into retirement — in some cases, whether that concern is warranted or not, said David Frisch, founder of Frisch Financial Group in Melville, New York.

“In addition to the financial calculations, it’s also psychological in terms of risk,” he said, adding that even when the math suggests that maintaining a mortgage would cost less than paying it off, some homeowners’ intense aversion to debt influences their choices. “Some people don’t want that mortgage payment hanging over their head even though they’re earning more” by keeping that cash in CDs or Treasury securities, he said.

Some financial planners embrace a less-debt-is-better philosophy, as well. Jamie Cox, managing partner of Harris Financial Group in Richmond, Virginia, said a homeowner’s psychological approach to debt plays a role in his reluctance to encourage a client to hold onto a mortgage.

During the financial crisis, Cox said his clients with paid-off mortgages were more sanguine about the drop in their portfolios because they didn’t have that obligation hanging over their heads. “They’re better investors because they’re not afraid of losing their homes,” he said.

Figuring out what’s best for you

No single decision will work for everyone, so financial planners suggest that homeowners at or near retirement consider the specifics of their mortgage terms, cost of living and risk tolerance, along with the following points:

If you took advantage of historically low rates to refinance, it’s possible that you could earn a higher yield by keeping money earmarked for a mortgage payoff in safe investments like CDs or Treasuries.

Financial advisers warn against paying off a mortgage if doing so would leave you with little or no emergency savings. Advisers typically suggest keeping an emergency fund of between three and six months’ worth of living expenses in cash or similarly liquid instruments.

Your personal risk tolerance matters. Saving a couple hundred dollars a month shouldn’t come at the price of your peace of mind.

Six financial actions to take a year before retirement
BY EVAN T. BEACH FOR KIPLINGER

Meet Steve. He is a partner with a big law firm in Washington, D.C. He is facing a mandatory retirement in just under a year, at age 65. Unlike so many of his partners, he doesn’t plan to lobby to stay on as a partner or counsel. He is ready for what’s next.

Steve was divorced over a decade ago, and his two kids are grown and financially independent (for now). In this article, I am going to detail what I think are six critical, and often overlooked, financial moves Steve should make before he retires.

Come up with a health care plan

Steve’s retirement lines up with his Medicare eligibility. One of the firms he previously worked for provides health care for life to its retired partners, and while that would be even better than Medicare, Steve wonders what his peers who call it quits before 65 will do. He finds comfort in the fact that he will be on a government health plan but has no idea how much it will cost.

No matter which survey you look at, health care is always one of the top three expenses in retirement. Yet very few people do any planning around what it will cost. Of course, it is impossible to know when it comes to long-term care, but you should be able to get a ballpark estimate of the monthly and annual costs of Medicare. Because of Steve’s sizable income, his Medicare Part B and D costs will be quite high. However, he is eligible to file Form SSA-44 to reduce his premium due to retirement. He will also want to work with a Medicare consultant to get advice on which Medigap plan makes the most sense for his needs.

Simplify your financial life

Steve, like most people we help, has a long list of financial accounts that tell a life story. A few old 401(k)s tell the story of his life as a young associate and counsel before finally making the jump to partner. Two bank accounts that he never touches came about because he wanted to be able to easily transfer funds to his kids while they were away at school. Others were opened in an attempt to obtain higher interest in an environment where decent rates were almost impossible to find. He owns a whole mess of insurance policies, some of which he bought; others came from previous employers. His financial life has become somewhat like my streaming subscriptions: hard to track, expensive and confusing.

While many people will delay this step until after retirement when they have “more time,” I believe you should tackle this before then. This organization and simplification will paint a clear picture of your starting point, which really dictates how much you can spend in retirement. You can use this free tool to aggregate and track your accounts.

At this point, outside of one-off situations, you may be better off consolidating retirement accounts with a low-cost custodian. We believe that a simple financial life beats an optimal one. This may sound crazy, but I’d rather have one consolidated bank account yielding 2.5% than have five where the average rate is 3%. Obviously, when it comes to investments, we are seeking what is optimal, as small percentage changes can yield large results.

Figure out how much you spend

Steve feels fortunate that he hasn’t needed to create a budget since he paid for his kids’ college educations. So, it’s tough for him to say what he spends every month or every year. He just knows that it is less than what he makes.

There are several ratios to help you guess what you will spend in retirement. I think a good starting point for Steve is just to start with current expenses to figure out if he can maintain his lifestyle in retirement.

The easiest way to do this is to add up total debits across all bank accounts he uses and divide by 24. This should capture pretty much everything except for payroll deductions and will paint a pretty accurate picture of monthly expenses.

For our clients, we will further break out travel, health care, housing and anything else that will change significantly in retirement. I’ve seen too many advisers get so granular with this that it keeps the client from taking any action at all. Start high level by just figuring out total expenditures.

Check your asset allocation

Steve has been handsomely rewarded for his ability to shut his eyes, save his money and do his job. Over time, his 90% allocation to stocks has really worked out. However, 2022 was scary, and he imagines that it would have been scarier if he were reliant on his investments.

As you approach your retirement, it is common to see investment swings positive and negative in multiples of your income. Therefore, it is key to make sure your asset allocation is aligned with your goals. I generally advise keeping two years of one-time expenses in cash equivalents. That should keep you from losing sleep in your early years of retirement.

Beyond that, you should have an asset allocation based on your risk tolerance and return needs. The longer the time horizon for the money, the more aggressively it should be invested, generally speaking.

Maximize deferrals

Steve has seen his income consistently rise throughout the last decade. He is fairly certain that his last year of employment will also be his highest-earning year. He plans to stick with the savings plan he has elected in previous years: some to 401(k), some to deferred compensation and some to defined benefit plans.

We project out tax rates for all of our clients. I believe, it would be almost impossible to do the work well without having some sense of what taxes will be. One thing we see among almost all retirees who go cold turkey out of the workforce is a steep drop in the effective tax rate in the year after retirement. You usually go from a peak to a valley. In this situation, it is generally best to maximize your tax deferrals, i.e., kick the tax can down the road. Typically, this is best to do through employer retirement and health plans or charitably, through a donor-advised fund.

Come up with an income plan

Steve knows that he needs a full financial plan, but he is most concerned at this point about figuring out where his income will come from once his paychecks stop. His situation is less than straightforward due to deferred comp, a pension and Social Security.

Should he elect for Social Security because he is retiring? Probably not. Steve is right that he needs a full financial plan to help ensure he is maximizing income, minimizing taxes and planning his estate. An income plan is one component of this. It should dictate two things: how much money he can afford to spend every year and where that money will come from.

Generally, you want to take advantage of the low-income years that come after retirement by doing partial Roth conversions and living off of cash and taxable investment accounts. You’ll get the highest amount of monthly income from Social Security by delaying until you’re 70, but this doesn’t make sense for everyone.