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We have a combined pension and social security income of $8,400 a month which only drops to $6,730 if one of us dies. Our RMDs will start soon and we have $1.6 million in a 401(k) which we feel we can use a low cost (expense ratio 0.12%) total return target fund to avoid using a robo advisor that charges 0.3 – 0.8%. In addition, we have another $350,000 in Roths and a $300,000 taxable brokerage account that RMDs will flow into. We own our house. Instead of buying an annuity can I simply use a target date fund in my IRA from which RMDs will automatically be drawn?
– JR
I hear a few different questions here, JR. First, should you buy an annuity or rely on your investment portfolio? Next, is the cost of a robo-advisor worth it compared to a target date fund? And finally, is a target date fund or robo advisor enough to manage a portfolio like yours? Let’s look at each of them to help you get some answers. (And if you need more help answering questions like these, talk to a financial advisor.)
Annuity is a form of insurance. You buy it with the expectation that the cost will outweigh the benefit in the long run. But, like other types of insurance, it protects against key risks. In this case, the risk is the possibility of running out of money, especially if you live longer than expected.
A good, low-cost annuity can be a useful tool in many situations. In your case, though, my initial guess is that it might not be necessary.
You’ve built an efficient investment portfolio with enough assets spread across different accounts, which should theoretically give you more flexibility to manage your income needs in a tax-efficient way. And with your retirement and Social Security income, you already have tools that function like annuities in that they will provide a reliable stream of income for the rest of your life.
While there are many details about your situation that I don’t know, it sounds like relying on your investment portfolio instead of buying an annuity would be a reasonable approach. (But if you have more questions about annuities and other financial products, consider reaching out to a financial advisor to discuss them in more detail.)
A target-date fund adjusts its holdings and becomes more conservative as the target’s retirement date approaches.
In tax-advantaged accounts, like your IRA, I personally don’t think there’s much difference between robo-advisors and target date funds or all other funds. Both make it easy for you to invest your money in a well-diversified portfolio that is managed for you. In both cases, it comes down to finding the right fit for your goals, risk tolerance and fee preferences.
To answer your question directly, it is more appropriate to use a target date fund instead of a robo advisor. You can get a similar portfolio at a lower cost, which can make a big difference over the years.
However, there are two important points to note.
First, make sure you choose a target date fund based on your personal goals and risk tolerance and not simply choose one that matches your age or retirement year. It’s also a decision that needs to be reevaluated regularly because target-date funds usually change their asset allocation over time, and those changes may or may not suit your situation.
Second, robo-advisors can leverage target-date funds in taxable accounts. They are often smart about things like tax efficient rebalancing and tax loss harvesting, both of which can help reduce your costs and increase the efficiency of your investments. (And if you prefer a person to manage your IRA and other assets, this free matching tool can connect you with financial advisors who serve your area.)
A woman and her husband meet with their financial advisor to discuss their plans for retirement.
Despite all of this, your situation can benefit from working with a good financial advisor, especially one with strong investment and financial management experience.
You have significant assets spread across three types of accounts with very different tax characteristics: a 401(k), Roth IRA, and taxable brokerage account.
You’ll also be looking at required minimum distributions (RMDs), in addition to your fixed retirement and Social Security income, along with important decisions about how much to withdraw and how to invest.
This is exactly the type of situation where considerations like asset location and tax-efficient exit strategies can make a big difference. According to Vanguard research, a good financial advisor can add 0.60% annual value through asset positioning strategies and up to 1.20% annual value through smart spending strategies.
You have enough money in various buckets that the cost of a good financial advisor can be well worth it. In my opinion, neither a target date fund nor a robo advisor will manage all of your assets anywhere near as efficiently as a true professional can. (And if you need help finding an advisor, try SmartAsset’s free matching tool.)
To sum it up, yes, it seems reasonable to rely on your investment portfolio instead of buying an annuity. Also, a low-cost target date fund chosen based on your goals and risk tolerance, rather than relying solely on the year of retirement, is a perfect alternative to a robo-advisor. However, I also imagine that you can benefit greatly from working with a good financial advisor who knows about asset positioning and tax efficient exit strategies. At the very least, I would encourage you to have a few conversations with counselors to see if you can find a good fit.
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Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors serving your area, and you can make a free introductory call with your advisor matches to decide which one is right for you. If you’re ready to find an advisor to help you achieve your financial goals, start now.
Keep an emergency fund handy in case you run into unexpected expenses. An emergency fund should be liquid — in an account that isn’t subject to significant fluctuations like the stock market. The trade-off is that the value of liquid cash can be eroded by inflation. But a high interest account allows you to earn compound interest. Compare the savings accounts of these banks.
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Matt Baker, CFP®, is a SmartAsset financial planning columnist and answers readers’ questions about personal finance and tax topics. Have a question you want answered? Email AskAnAdvisor@smartasset.com and your questions will be answered in the next column. Questions may be edited for length or clarity.
Please note that Matt is not a participant in the SmartAsset AMP platform, nor is he an employee of SmartAsset, and he has not been compensated for this article.
The post Ask an Advisor: We have $1.6M in a 401(k) and another $650k and Social Security. Should we move assets to a target date fund or annuity? First appeared on SmartReads by SmartAsset.
