As we talk about transitioning the business to new management, we must create income for the outgoing owners. The retirement income plan needs to provide adequate income for rising needs over time.
Inflation will steadily erode the purchasing power of your income. You can't simply count on land rent income to rise.
Regular readers of this space may recall a recent item that discussed the benefit of annuity contracts to guarantee that income will continue no matter how long the owner lives. This is a great tool. Especially since we all seem to be living longer all the time. But it's not enough.
Inflation adds up
While lifetime income is great, the problem is inflation. The U.S. inflation rate since 1926 has been 3% per year, according to the 2015 Morningstar Andex Chart.
At that rate the cost of goods doubles every 24 years. So for a 60-year-old couple who can expect to be in retirement for 30 years, every expense will increase by 2.4 times by the time they reach age 90.
So what do we do about inflation? One tool to consider is a portfolio of dividend paying stocks. Over time, dividend paying stocks have generated more income than bonds and outpaced inflation. The chart below shows the following:
• Stocks (represented by the S&P 500 Index) and bonds (represented by the Barclays Aggregate Bond Index) both begin with $10,000 invested in 1976.
• Initial income is 4.61% dividend on stocks and 7.45% interest on bonds.
• In 2014 the stocks paid $4,452 in dividends and the bonds paid $253 in interest.
• The original $10,000 in stocks (with NO dividend reinvestment) grew to $228,283.
• The original $10,000 in bonds (with no compounding of interest) grew to $11,232.
The central logic here is that in times of inflation, bonds tend to follow the inflation rate. Stocks in dividend paying stocks tend to grow in value during inflationary times, so the principle amount increases and the dividends keep coming.
We always recommend that our clients have a balanced portfolio that includes U.S. stock, foreign stocks, bonds, alternatives and cash to help provide sustained growth over time in a variety of conditions. The exact proportion of each asset class will vary based on individual client needs.
Always consult your own fiduciary financial planner for the best asset allocation for your situation.
If this blog has got you thinking about your own situation, get in touch with my office ([email protected]).
The opinions of Rich Dunn are not necessarily those of Farm Futures or the Penton Farm Progress Group.