rising inflation

Financial Planning in the Face of Rising Inflation

10 December, 2023

How to Devise Financial Solutions in the Face of Several Different Dilemmas

Erik Van Potter, April 2022

I have FANTASTIC news!

Tax brackets for 2022 year are adjusted up for inflation! Income brackets have been adjusted upwards by approximately 3%. This would make up the inflation difference in an average year. But, unless you’ve been hiding in a cave in North Korea with your pet goral, I don’t have to tell you these are NOT average times! Everything we’ve ever known about financial planning, retirement planning, and private wealth management has changed right before our very eyes.

Today we have 8.4% inflation year-over-year, so this hike in brackets will cover almost half of it. The problem is we still have the rest of this income year to go with no promise of price relief in sight. What this summer will usher in is anybody’s guess; another pandemic-induced crisis, China invades Taiwan, higher supply chain pressures, Mars attacks – for real, but what we do know is that we are in the middle of a seemingly non-transitory inflation that directly affects your checking account.

“Those who cannot remember the past…”

How long this will last should be under serious consideration when financial planning for the future. In 1973, we kicked off nearly a decade of high inflation years. Some argue it was a result of Nixon’s move off the gold standard in 1971, but whatever the reason, we had nine years of 9.24% average inflation. Average annual income in 1973 was $11,140, and with an average increase of 7.4% by 1981, it had grown to $20,675. For all but two of those years, inflation outpaced income increases. Since 1929, we’ve had seven years of negative or flat inflation, three of which were Depression years. If the gold standard theory is close, what will be the long-term consequences of “printing” trillions of dollars over the past two years? The looming question is: was 2021 a harbinger of another decade of trying to catch up?

If we consult our financial magic 8 ball, all signs so far point to “yes.”

The Inflation Dilemma

To give you an idea of what we’re looking at in terms of inflation, here is the movement on some key items over the past year.

Gas: +48%
Fuel oil: +70.1%
Electricity: +11.1%
Meats, poultry, fish, and eggs: +13.7%
Dairy and related products: +7%
Fruits and vegetables: +8.5%
Beverages (non-alcoholic): +8%
Beverages (alcoholic): +3.7%
Tobacco: +6.9%
Apparel: +6.8%
New vehicles: 12.5%
Used vehicles: +35.3%
Transportation services: +7.7%
Airfare: +23.6%

Inflation data was pulled from the most recent 12-month reporting via the U.S. Bureau of Labor Statistics

Considering what you spend most of your money on, the overall inflation figure could be higher for you. Most people can avoid buying a car for a bit, or replacing their old Zenith console TV, or they can lay off the bacon for a while (this is just becoming a living hell!), but you still need to drive, eat, and pay utilities. The discussion I fail to see engaged is that of the effect of sales taxes on the familial bottom line.

In Johnson County, Kansas, the combined sales tax is around 10%. In Florida, the total tax rate can be as high as 8%. In Wisconsin, it hovers around 5%. And if you’re lucky enough to be in New Hampshire, Montana, or the home state of the President (Delaware, not Pennsylvania), you pay the sticker price without contributing to the tax base.

So, if we take this into account, that inflation figure will have an even higher impact on your checking account. If you’re already retired, planning to be, or still currently working and saving for retirement, this will have long-lasting consequences on your financial landscape moving forward.

The Retiree Dilemma

Most retirees are living on a finite number of dollars. Even if you are lucky enough to have a pension, most of those payments are fixed for life. In other words, there is no cost-of-living adjustment built in, so if you are to keep up with rising inflation, you’ll need assets from which to pull from to supplement your fixed income.

On the other hand, if you do not have a pension, you’re pulling from an IRA or other such tax-qualified account to supplement your Social Security benefits. In either scenario, if you’re pulling from a taxable account you need to pull the amount you need to offset the cost of living plus the amount to pay the taxes on those dollars. And while in 2022 Social Security payments will increase 5.9%, roughly $100 per month on average, Medicare premiums will increase 14.5% from $148.50 to $170.10. So, the increase will be virtually unnoticeable.

The strategy you employ to draw dollars from your savings will have an additional impact on your retirement comfort long-term. In the world of financial planning, it is generally suggested that one pull between 2.5% – 4%. The average retiree has just over $400,000 in savings, so that would mean you could pull $10,000 – $16,000. The question is: if the value of your account drops with the market, say 48% like in 2009, are you going to reduce your draw by the same percentage or take the same dollar amount hoping you expire before your account does? If your cost-of-living increases and your account values have decreased, there could be tough choices to make. (“Welcome to Walmart. Ya should’ve saved more than me!”)

The Pre-Retiree Dilemma

If you’re planning on retiring in the coming five or ten years, you already need to factor the current inflation when you project your income needs for your Medicare years. If this trend continues for a decade, having your investments positioned in a manner to keep up with the inflation is paramount to not falling behind when it comes to purchasing power. One thing to consider during your retirement planning are what your resources are and the income they will generate. It may not be prudent to take on a huge risk to chase a gain that may end up turning into a loss. What is the timeframe you’ll need to use those dollars for income?

Speaking of Medicare, as we grow older, our medical needs become more demanding. While Medicare will cover most of your health care needs, some won’t be. The biggest cost that isn’t covered by Medicare is that of long-term care. According to the Department of Health and Human Services, 70% of retirees will require long term care at some point. If you want to stay at home while the CNAs freshen your water jug and make sure you make it to the loo in time, it’ll run you about $55,000 a year now. If you need more intensive attendance, it’ll run just over $100,000 a year. Those figures increase at a rate of 3.5 – 4.5% a year.

The good news is that the government will pay for it! You just have to spend down your estate, then live in a facility that your grandkids won’t be anxious to visit you in, with a roommate who yells at you over your choice of Matlock episodes, and the food is sometimes identifiable. So, there’s that.

The Working/Saving Dilemma

When you take your money from your paycheck and put it in your company’s 401k, you probably get a match of 3%. It may even be as high as 6% if your boss really loves you! Few are luckier. Right there you’ve made 100% on your investment, right? Don’t look for a trick question here. I can’t really conjure an argument against contributing at least to the match. What needs consideration is actually watching the accounts. You already know you need a return of over 6% to keep up with inflation, now take a look at the fees they charge in your 401k, IRAs, and other retirement savings you have.

If you’re paying 1% or 2% you need to make 8% to have the same purchasing power with the Benji’s you’ve tucked away. What you need to net if you want actual gains in purchasing power depends on your retirement time frame and income goals. Your retirement accounts aren’t really built for “set it and forget it” mindset like a Ronco rotisserie, or growing cacti, or baking a cake. If you can position your savings to mitigate unnecessary risk and capture and keep more of the gains, you will be better off when it comes time to ride off into the sunset with your gold Timex.

A more immediate issue is health care. Over the past 10 years, medical costs have risen over 7% per year. It stands to reason that the supply chain issues today combined with inflation will be reflected in medical costs in the coming years. Employer-sponsored health care plans are up 47% over 2011, and the deductibles have increased by 68% over the same time. This translates to an increase in your direct cost, not only in premium with every paycheck, but also your “out-of-pocket” when you need to take little Johnny for a busted arm because he didn’t buy the whole “gravity” theory and thought he could jump off the top of the shed with a sheet “parachute.” On average, $1,669 today versus $991 ten years ago. (Never mind the cost of the sheet that was ripped!)

The Exit Dilemma

One of the most vital and overlooked parts of financial planning is the exit plan. In over two decades working in this industry, I’ve found this to be the most perplexing question I ask people. “What’s your exit strategy?” Consider your goal age to retire. Most say “as soon as possible,” but have no defined parameter as to what that means. Much of the mental ambiguity is that as we grow older our reality of finances and wealth management becomes clearer and we realize that while a $1M dollars seemed like a lot of money when we were 25, it doesn’t seem like as much when we’re planning retirement at 65 and need income for 30 years ($33,333/year without gains).

There are really three ways to walk away from your job; quit, become disabled, or die. The latter of them is the least desirable I’ve found in years of study, but should that be the unfortunate exit, what plans do you have in place to continue your financial plans for your family in your absence? Only slightly less unattractive is the prospect of disability, and the former is where the most focus is placed.

The Strategy Dilemma

More important than having a financial plan is having a financial strategy, an exit strategy. Your financial planning should reflect what you want to achieve and a general pathway to achieving it. The strategy is what you’ll do when the proverbial feces hits the fan.

A strategy should include:

  • Critical reflection
  • Clarity of vision
  • Actionable redirection
  • Proactive management
  • Measurable results

There are an infinite number of variables when it comes to creating a financial plan for you and your family. The art is the elimination of the least desirable and maximizing the most desirable. This is the strategic part. When creating a plan, set your goals of when, what, where, and how. When you want to retire, what you want to DO during retirement, where you want to reside during retirement, and how you will pay for retirement. This is an outline of what you want, at least right now. The strategy is how these goals will be accomplished.

I am starkly aware of the riveting nature of the contents herein and your burning desire to explore more! I mean, really, who doesn’t want to sit all day and discuss the finer points of inflation and the deleterious effects of moving off the gold standard?!?! Maybe we could debate the Bretton Woods Agreement and the influence it has on today’s economy! But really, if you’ve stayed with me this long, you’re either deficient of an exciting life or halfway through a bottle of wine…or bourbon, or you have an intense interest in your own financial success. To the latter, I encourage you to call for an analysis and begin your strategic planning. To the former, I welcome all recommendations of good spirits!