Pre-retirees and retirees have been trying to squeeze out extra yield on fixed income investments for many years in the current low-interest environment. And lately the pickings have been pretty slim.
However, if you broaden your goal from simply earning more interest on your savings to reliably increasing your financial security in retirement, you might discover creative ways to deploy your retirement savings.
Let’s look at five “retirement investments” with the potential to significantly beat current yields on bonds and bank accounts.
1. Social Security bridge fund
For most people, one of the best ways to ensure you have enough money during your retirement years is to delay taking your Social Security benefits for as long as possible (but not past age 70). To replace that income, if you need it, you would set up a Social Security bridge fund with a portion of your retirement savings, then use those funds to pay yourself an amount equivalent to the Social Security benefit you’re delaying. This move will increase your guaranteed, lifetime retirement income.
I’ve previously estimated that the long-term “yield” on such a Social Security bridge fund ranges from 7% to 10% per year. Guaranteed by the U.S. government. For the rest of your life.
You can realize this long-term return even if the actual interest rate earned on your bridge fund is quite low.
2. Pay off your mortgage
If you’re paying an interest rate of 4% or more on your current home mortgage, then paying it off is like earning a fixed rate of 4% or more per year, which significantly exceeds the yield on most “safe” fixed income investments.
Of course, there are some considerations to take into account when paying off your mortgage. These include the source of the savings—whether it’s been taxed or is pre-tax—you’ll use to pay off the mortgage. Other considerations include your preference for liquidity, whether you can use the interest deduction, and your marginal income tax rate.
If you’re analyzing whether it makes sense to pay off your mortgage, it’s misleading to compare the historical rate of return on your total investment portfolio to the interest rate on your mortgage. A better comparison is the current yield on fixed income investments in your portfolio vs. your mortgage interest rate. If you decide to pay off your mortgage, use your fixed income investments to fund the payoff.
3. Solar panels
Worried about your living expenses increasing as you grow older? Investigate whether investing in solar panels could help reduce your electric bills. The yield on this “investment” can far exceed the money you might earn from interest on bonds and bank accounts.
For example, we recently purchased a solar system that was estimated to pay for itself in 20 years. The “payoff period” is a common analysis to justify the purchase of solar panels.
Instead, let’s look at this analysis through an investment lens. If we expect to recover all of our original investment through 20 years of reduced or eliminated electric bills, in effect, we’re “earning” 5% each year on our original investment. And that’s an after-tax return!
Solar panels can also deliver two extra bonuses: You’re increasing the value of your house, and you’re helping to save the environment.
4. Downsizing
For many people, that big house in the suburbs where you raised your family and commuted to work might not be the best place to live in retirement. Housing is still the largest living expense for most retirees. So, if you have limited retirement income and are looking to make ends meet, consider looking for a home that costs less than your current house and has lower maintenance costs and property taxes.
Most likely, you’ll incur some expenses if you make this move, such as the cost of selling your current house and buying a new house, and any moving expenses. Consider this outlay as part of an investment that will help reduce your living expenses for years to come.
5. Annuities
Annuities have mixed reputations—if you ask around, it’s likely you’ll receive different viewpoints on annuities from people in the insurance industry vs. people who want to invest your money in stocks and bonds. For the purposes of this discussion, I’m referring to immediate annuities that provide a stream of lifetime retirement income, not deferred annuities that are often sold as investments.
People often have misconceptions about annuities. For example, some people might think, “I’ll wait until interest rates rise before buying an annuity.” But a low-interest environment is actually a good time to invest in an immediate annuity, since it’s a reliable way to safely spend your principal.
In addition, if you’re waiting to buy an annuity until interest rates rise, you could be waiting a long time. And what will you invest in while you’re waiting? Cash? And earn nothing? Long-term bonds? Then you may as well have invested in the annuity, since annuities are typically backed by long-term bonds. Stocks? While stocks have the potential for significant returns, it’s not a return you can rely on.
My recent retirement income scorecard shows that the “payout rate” for an annuity bought by a 65-year-old married couple can range from 4.5% to 5% per year. However, a payout rate is not to be confused with an interest rate. An annuity’s “payout rate” typically includes a return of principal, whereas the interest rate on a bond or bank account doesn’t include a return of principal.
While this is an important difference between annuities and fixed income investments, it might not be appreciated by retirees who need more cashflow than the interest from their fixed income investments and who want to feel safe that they won’t outlive their money.
Another criticism is that annuities are “costly.” Actually, there are both cost-effective annuities and high-cost annuities, just like much of the stuff you buy. Your job is to do your research and shop around for a cost-effective annuity, or seek out a trustworthy professional who can do the shopping for you.
Admittedly these ideas won’t be practical for all people. And there are certainly more good ideas out there. Hopefully you’re now inspired to search for creative ways to reliably increase your financial security in retirement.