The Federal Reserve’s annual report on the economic well-being of American households hailed a new milestone. At the end of 2021, 78% of Americans said they were doing well or living financially comfortably. This was the highest percentage since the Fed launched the survey in 2013. Additionally, in 2021, 68% of households believed they could cover a $400 emergency with cash. It was also cause for celebration as a new high percentage for families.
This year’s inflation has changed the financial situation of most Americans. A report released this month by PYMNTS.com and LendingClub found that nearly two-thirds of the US population now live paycheck to paycheck. How prepared are you for a financial emergency in the early years of retirement given current inflation?
Budgeting for the interim period at retirement
If you have a budget, how will it hold up in the interim period between your last paycheck and the Office of Personnel Management adjudicating your retirement pension? Depending on all facets of your retirement and current forecasts, it may be at least several months before your interim payroll process is complete.
If you don’t have a budget, the interim period can be a twilight zone of uncertainty. The interim period doesn’t have to be a stress test for your household cash flow.
My advice for those who are about to retire is to consider the check you receive for up to 240 hours of annual leave as a Get out of prison card not only for the interim period, but also for the first year of your retirement. Nobody wants to go to jail and nobody needs a financial crisis.
Retirement cash inflows and outflows will be different from employment-related cash inflows and outflows. Just getting a pension check once a month instead of a paycheck every two weeks is a challenge for some households. For those on a budget, the vacation package is a nice cushion. For those without a budget, this can be a lifesaver.
My suggestion for anyone transitioning from a federal job to retirement or even a follow-on career is to not do anything flashy with the check you’ll receive for annual leave. Deposit the vacation lump sum outside of your checks and savings and even consider placing it at another financial institution. If you don’t currently have an account with a credit union, now might be a good time to explore this option.
Credit unions are customer-owned and their non-profit status is a good alternative to banks. And if you already have a credit union, there’s nothing wrong with joining a second one. I belong to several and this is convenient, for example, when buying a car loan. It’s nice to get a low-cost loan, but it’s even better to have two or three credit unions bidding against each other for your loan.
Separating the vacation paycheck from your existing funds reduces the temptation to view it as potential crazy money. Separate statements each month reinforce a mental barrier. Some of us need all the help we can get to guard against the impulse, except in an emergency, to tap into a very liquid source of money.
Budgeting for retirement after the first year
After your first year of retirement, you might want to start thinking about doing something with the money you’ve set aside. By now, you’ve paid your taxes for the first year of retirement and know your retirement cash flow.
So what if you didn’t have financial downturns in the first year of retirement? Congratulations. You just survived your first year. And the years to come?
Consider a Certificate of Deposit (CD) scale
Now is the time for you to consider turning the account holding vacation leave assets into an emergency fund set up for security and liquidity for the duration of your retirement. Now would be the time to start a Certificate of Deposit (CD) ladder.
A CD ladder is made up of multiple CDs with different expiration dates. You can divide your money into different due dates. For liquidity consider something like 20% in a 3 month CD, 20% in a 6 month CD, 20% in a 9 month CD, a 12 month and 20% in an 18 month CD. When the shorter-term CD matures, you take those dollars and the interest paid and reinvest them in a longer-term CD. If interest rates rise, then this new deposit will pay more than the CD that just matured. Investopedia has a good overview of what a CD ladder is and explains the concept in more detail.
There’s nothing stopping you from exploring a pre-retirement CD ladder if you already have an emergency fund. For those without a dedicated emergency fund, consider using the lump sum or most of the annual leave day lump sum as a pool of cash that you can eventually use to create your own CD ladder.
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