I went to the local Fidelity branch a couple of weeks ago to give them a filled out form for a free international wire transfer. I saw other clients being greeted and led into the offices in the back. When I asked what other services they offered at the branch, the representative told me they give free financial planning help to clients.
I wanted to see if the free help would tell me something I didn’t know. The representative sent me to see Janet in the back. Janet’s title is Vice President, Financial Consultant. She explained to me the structures of financial planning help at the Fidelity office. At the VP level, she doesn’t have a requirement of having clients use Fidelity’s paid wealth management services. Her clients can stay 100% self-directed. At the next level above her, the wealth managers, clients are expected to have 20% of their assets in a Fidelity wealth management program. At the next level above that, the private wealth managers, the expectation is 50%. Because I have no interest in wealth management, I fit in with her services.
Her primary tool is the retirement analysis tool in Fidelity’s Planning and Guidance Center, which is available on Fidelity’s website for free to all Fidelity customers. Non-customers can also use it for free as a guest (I imagine Fidelity will subtly try to convince you to become a customer after you register as a guest). You can run the tool on your own without seeing someone like Janet at the Fidelity branch office. Financial consultants like her are there to help people run the tool and possibly look for up-selling opportunities.
The Planning and Guidance Center also has tools for college savings and other savings goals (for example buying a home). For my purpose I only looked at the retirement analysis. Like other retirement calculators, this tool will project how well your assets will cover your planned expenses through retirement.
Janet gave me some pointers on how to use the retirement analysis tool to its full potential:
- Use the detailed budget worksheet, not just an aggregate number for planned expenses, because the tool will apply a higher inflation rate to healthcare expenses.
- For one-time or spike expenses such as college tuition or home improvement projects, click on details and enter a start year and an end year.
- There is a place for one-time or spike income as well, such as inheritance, downsizing real estate, or consulting for a few years.
I entered my assets, income, and estimated expenses into the retirement analysis tool.
Time Horizon – You say how much income you make from employment now and how long you will work before you retire. The tool doesn’t tell you when you can retire. You can do trial-and-error based on the output of the tool. If the output looks good you keep shortening the number of years you will work before you retire. You stop when the output reaches your comfort level.
Estimated Retirement Expenses – You enter your expenses into a detailed worksheet with different categories. You designate which categories are essential and which categories are discretionary. The worksheet allows one-time and spike expenses. The tool doesn’t tell you how much you can spend while keeping the plan above a comfort level. Again you can do trial-and-error. You keep increasing or decreasing the expenses until the output reaches your comfort level.
Social Security – You enter the ages at which you and your spouse will claim Social Security and the respective monthly benefits. Other tools can help you estimate these numbers and give you a strategy. See Retiring Early: Effect On Social Security Benefits.
Additional Income Sources – Pension, part-time work, one-time income, etc. can be entered here.
Accounts – Fidelity accounts are automatically included. Other accounts can be linked or manually entered. For manually entered accounts, you can give the total balance and a breakdown by broad asset classes, or you can give detailed holdings with symbols and the number of shares you have. For each account, you can designate whether this account is assigned to fund retirement or it should be left out.
Taxes – You give an estimated effective tax rate, which will be used in all years for withdrawals from all non-Roth accounts. The tool doesn’t vary the tax rate based on which accounts you will take withdrawals from or how much you are receiving from Social Security. I think this is crude and weak. You can try entering different rates and see how your tax rate estimates affect your final output.
Asset Mix – The tool will calculate your overall asset allocation across all accounts. You can also pick a target asset allocation in broad asset classes: U.S. stocks, international stocks, bonds, and short-term fixed income. The target asset allocations are in 10% increments in terms of stocks:bonds ratio. The same asset allocation will be used in all years throughout retirement. The stocks:bonds ratio doesn’t glide down with your age. Again you can try picking different asset allocations and see how the choices will affect your final outcome.
What It Does
After you enter all the information, the retirement analysis tool will run 250 simulations based on historical returns. It gives you 3 scenarios for market returns: Significantly Below Average, Below Average, and Average. Significantly Below Average says 90% of historical returns will end up above this number. Below Average is 75%, and Average is 50%.
For conservative planning, the tool suggests you look at the Significantly Below Average scenario. If your assets are able to cover your planned expenses when the future returns are above the bottom 10% of historical returns, the tool thinks you are good. It gives you a score called Fidelity Retirement Score, which is the percentage of your planned expenses that can be covered by your assets in the Significantly Below Average scenario.
How far above 100 you’d like to push this score to feel comfortable and secure is up to you. Given the difficulty to predict the future, I wouldn’t take a single output as gospel. I would use the tool more for sensitivity analysis, in answering these questions:
- If I work X more years, how much more in expenses will I be able to cover? In other words, how far off can my expense estimates be?
- How much do taxes matter? If my taxes are higher (because I didn’t do it the most efficient way, Congress raised taxes, etc.) how much difference does it make?
- How much does asset allocation matter? If I invest 60% in stocks versus 40% in stocks, does it make a big difference or only a small difference in terms covering planned expenses?
What It Doesn’t Do
While this free tool is useful in some ways, I also find it lacking in many other aspects. Too many things have to be done with trial-and-error.
It doesn’t tell you when you can retire. You can’t say I’d like cover 110% of my planned expenses (given some margin for error), tell me when I can stop working. You’d have to do trial-and-error to derive it.
It doesn’t tell you how much you can spend. If your planned expenses are low, the tool will show that you will have a lot of money left at the end. You’d have to increase or decrease your expenses by trial-and-error and see how much you can spend without leaving too much money behind or risk running out of money.
It doesn’t suggest an asset allocation. You can change the target asset allocation and see what difference it makes but the tool won’t tell you that given your assets this asset allocation will cover the highest expenses when future returns will be significantly below average.
It doesn’t give you a withdrawal strategy. The tool follows a preset order of withdrawals from different types of accounts. It doesn’t optimize the withdrawals for taxes. It uses a single tax rate given by you for all withdrawals from non-Roth accounts. The output can be sensitive to this input you are not sure of.
It doesn’t give any strategy for Roth conversions. The calculator simply doesn’t do much in optimizing for taxes.
The Income Strategy section looks like a soft sell for annuities. Without any attempt to optimize withdrawals or Roth conversions for taxes, the tool has a section called Income Strategy. It suggested using part of the portfolio to buy an income annuity.
The theory is that when more of the planned expenses are covered by guaranteed income streams, a volatile portfolio can handle more withdrawals when returns are low. The theory isn’t necessarily wrong, but at least in my case the improvement was quite marginal. Using 20% of the portfolio to buy an annuity increased my covered expenses by 1%. Given that so many other things are just estimates, this 1% improvement isn’t meaningful at all.
This free retirement calculator from Fidelity can be useful in giving you a sanity check and helping you see what moves the needle and what doesn’t. Through some rounds of trials and errors, you can make it show you when you can retire for a given expense budget or how much expenses your assets can cover for a given retirement date. You can also see the effect of portfolio asset allocation by picking different target allocations. You have to be careful in giving the calculator a realistic tax rate. It doesn’t do anything in helping you structure your withdrawals and Roth conversions.