Welcome to Pension Attention, the best show for first responders who want to take control of their finances.
After advising Los Angeles city firefighters for over 12 years, financial advisor, Brad Barrett now shares how you can grow your wealth, build your legacy and enjoy a life of freedom. And now here's your host, Brad Barrett. [00:19.9]
Brad: Welcome to Pension Attention, the show for you, first responders who want more out of their deferred compensation and pension plan. My goal with this podcast is to reach you where you are at whatever stage in your career you are in to provide my nearly 15 years of experience working with both active and retired service members on their investment and retirement planning. My team of fiduciary advisors here at ONE Fire and Police are dedicated to ensuring you take control of your finances and build the life you deserve. To find out more about me or my team here at ONE Fire and Police, you can go to our website at PensionAttention.com, or you can give us a call (805) 409-8150. Again, you go to PensionAttention.com or give us a call (805) 409-8150. [01:08.0]
Today on Pension Attention, we're gonna be talking about a very large subject that we probably won't fully cover today, and that is dropped and how drop works for you. And in thinking about this subject in talking with many active members and retired members. Now over the past 15 years, I want to start off with a story about Olympic medalist, Dick Fosbury, and the power of being unconventional and how that relates to your drop plan. It was 1968 and Dick Fosbury, he took a moment at that time to meditate as basically 80,000 people looked down at him from their seats in Mexico city's Olympic stadium. And what the fans at these Olympic games didn't realize at the time was that they were about to witness not only the setting of an Olympic record, but the complete revolution of a sport. Just three or four years earlier, nobody in the world of athletics had ever really heard of the name, Dick Fosbury. Fosbury, he was a long and lean teenager. He was from Oregon and he was just another kid interested in track and field. And he wanted to compete in the high jump specifically, but he had failed to clear the height required to participate in a high school track meet during his sophomore year. [02:14.7]
So shortly afterwards, Fosbury had a stroke of genius. You see the high jump is a simple event, the athletes jump over a bar and whoever jumps the highest wins the event. Usually, each athlete will toss their body over the bar and crash onto a padded landing pit on the other side, I'm sure all of us have seen this event. Like most schools in the sixties, the landing pit at Fosbury high school was made of wood chips and sawdust. Now before his junior year, however, Fosbie’s high school became one of the first to install a foam landing pit and that gave him this crazy idea. He said, what if instead of jumping the conventional way with his face toward the bar, what if he turned his body arched his back and went over the bar backwards while landing on his neck and shoulders? [03:00.7]
What I'm describing here is what's now known as the Fosbury Flop. Fosbury’s new style, you know, it was criticized as at first, you know, one local newspaper said that he looked like a fish flopping in a boat while another called him the world's laziest high jumper and ran a photo of him sliding over the bar backwards. But by 1968, however, Fosbury was the only one laughing as he used the unconventional technique to win the NCAA championship and qualify for the Olympic games in Mexico City. By the time the games were finished, Fosbury not only set a new Olympic record by jumping 2.24 meters, which is roughly 7.35 feet, but also changed the entire philosophy of the sport. Within 10 years, his technique became the defacto standard, if you will, for high jumpers, pretty much everywhere. Now, nearly every gold medal winner and major record holder in the last 35 years, this is a crazy stat have used the Fosbury flop. And I think Fosbury story, it offers two real lessons that I think extend far beyond the world of high jumping. And especially as it might relate today to our topic of drop. [04:10.6]
First, his success came during a period when the environment of the sport had changed, but everyone was still following old patterns of behavior. Even though the switch to foam landing pits at the time allowed athletes to experience with a wider range of jumping techniques, everyone continued to do the same old thing until Fosbury came along. By the way, this is exactly why you see startups completely disrupt established industries. We're seeing that in our markets, and we've seen that over the past really 10, 15, 20 years. Take the transportation company, Uber. We all know that name, for example, taxis at the time where the standard way to get around for decades. And at some point, mobile phones and constant, I guess internet access became the norm in our daily lives. But everyone continued to flag down taxis and pay for them old fashioned way. The environment had changed, but the behavior stayed the same. Then one day Uber came along and said, Hey, use your phone to request a car. We'll pick you up wherever you're at and we can easily pay through your phone. Today Uber is the biggest taxi company in the world, if you think about it. [05:09.2]
And the second lesson, I think that Fosbury story reveals is that even great strategies require appropriate environments. So about three years before the Fosbury Flop began his rise to fame, there was a high jumper named Bruce Quande from a local high school there in Montana, who was experimenting with a backwards jump technique. Now why has no one ever heard of Bruce Quande? Well, because he stopped competing in the high jumps shortly after trying his new technique. Maybe you lost interest, maybe a school didn't have the rights, you know, landing surface. The only reason we know he tried is because someone actually discovered an old photo of him going over a bar backwards 50 years after it happened. Now there's no debate that Fosbury his technique is the best approach to the high jump. It immediately outperformed pretty much every other method and has been the standard in modern high jumping really for decades. But even though Bruce Quande had the right idea, he didn't have the right environment to turn that idea into success. [06:03.0]
And good ideas like this, they're like seeds. You know, you plant them in fertile soil with the sun and water they need and a little idea can explode with growth. And take this into consideration, as we talk about drop. Drop came in in the early two thousands, roughly, and in my opinion, okay, this is just an opinion from an advisor from the outside, it was one of the best ways I feel like a city of LA was able to attract, retain and reward key employees. And today we're gonna get into a little bit of the details around the Drop program. And for those of you listening here today, there are a lot of questions around drop and I, and I'm a big proponent of this is to find that advisor, to be able to sit with you, to make sure that you can answer your specific drop questions into a unique strategy for you, everything from when should I drop enter, what are the act exact requirements, which we'll talk about a little bit today on and how does drop work for you? Because that really is a custom discussion. [07:00.6]
And I do believe that, and we've done that for our clients here at ONE Fire and Police. And if you're listening and you're not a current client right now, and you want to sit and have that conversation, you can, you can give us a call at (805) 409-8150. You can also go to our website at PensionAttention.com and you can set some time there. In fact, for us to kind of go through where you're at in your current planning and see where you are as we track into this, this drop discussion today. So, when it comes to drop, let's talk about the high level of drop and what it is first. First and foremost, it's important to understand what it stands for. Everyone knows the term or the vernacular or the acronym if you will of DROP, but it's a Deferred Retirement Option Plan. It's basically an enhancement to your fire and police pension plan. And it's served to provide essentially another way to save for your retirement years. It's optional and it's voluntary, you don't have to do drop. But some of the benefits that we'll talk about today is it does allow members to work and receive, pay and benefits as an active employee while accumulating service pension payments in a drop account. [08:02.8]
And so, to be clear, when you drop enter members are considered “retired”, like I always say to clients like you're retired on paper technically, and for purposes of pension calculations only. For all other purposes, though, you're considered an active member of your respective department. Now in terms of who is eligible for drop, and you can go to lfpp.com and find out a lot more information about this. Or you can go to PensionAttention.com and we can help you with some information that directs you over there as well. But those who are eligible for tier one or tier four that have at least 25 years of service are eligible, or tier three, tier five or tier six, and have at least 25 years of service and are at least the age of 50. So many of you are going to be in that tier three, tier five or tier six. So, what I've usually say to clients at stations when I'm talking with certain stations or in our offices around is 25 years on and 50 years of age. [08:56.7]
And so, I want to step into some of the ways that drop works for you as it comes into why the drop program in it of itself is a good program. And back to my analogy of Fosbury, it's one of those things where you recreate in a way, a good benefit program to again, attract, retain, and reward key talent. And many of you listening right now, those of you worked on in those time periods and your considering drop entering you're at that stage of your career. Or even if you're a couple of years out from that, it's understand something in the corporate world where you would be considered a highly paid executive. And it's important because with a, and I'm speaking just with the fire department for a second, right? If we're speaking of a 3,600, 4,000 active-duty department right now, roughly, you know, you're an actively paid executive within a fairly large organization and you should be treated as such. Something I share on this podcast here at Pension Attention and something, we at ONE Fire and Police advocate when we talked to you at stations, or when we get to meet with you in our offices are on the phone, right. Is making sure that you, you take care of being a highly paid executive who has tenure in a company, right, in this case, a department, and making sure that you build your plan accordingly because the pension benefits, the deferred comp plan benefits and the drop all play a significant part of that. [10:12.7]
And in an analogy, I use sometimes there's a term in the corporate world called Golden Handcuffs. Sometimes you see, you know, some of these people coming off, you know, banks or different telecom companies or large executives getting paid large bonuses, a lot of that is attributed to, what the department has done, in my opinion. They've created a golden handcuffs to again, attract and retain or really retain and reward at that point key employees. Because in the drop program, as many of you know, and something I want to mention while you're in drop, your monthly pension payment is held in a nominal account with a guaranteed interest rate of 5%. And when you decide to leave the drop program after either the first day or up to five years as a maximum, you're required to terminate your sworn employment at that point, whether it's fire police, harbor, airport departments, and you'll begin to receive your service pension on a monthly basis and this lump sum. [11:04.1]
So, you starting to see what I'm talking about when it comes to having these retention and reward bonuses by keeping you on. But remember they're gaining you 5%. So, if they're doing their investing, right, they're hopefully making more than 5%, which benefits the city, benefits future recruits, right? And benefits the city as a whole, when it comes to hiring key talent and having them stay and serve our great city. So, I think that's number one is why a drop program makes a lot of sense for the city. And it makes a lot sense for you because lump sum dollars, in addition to a monthly pension and a monthly pension can be described as an annuity, maybe you'll have heard the word annuity, and I'm not talking about the product an annuity. If you look up the word annuity in the dictionary, it'll say it's a fixed sum of money paid to someone each year, typically for the rest of their life. Its origin comes from annum, which is annual. So something you're gonna get every year, no matter what. [11:58.7]
And the way drop works and why back to my example of Fosbury, why it's unconventional, so to speak revolutionary, if you will, and can be criticized, is that it's a lump sum. It's different than annuity, as well as it's different than your deferred comp plan, something you are choosing to grow. Okay. So, a drop rollover balance that rough amount that comes that supplements your pension, your annuity, essentially your periodic payment every month and your deferred comp plan and any other savings you've saved up at that point. Cashflow, trust assets, other IRAs, you or your spouse may have. I mean, it all adds up, right? But that lump sum means a whole lot when you go into retirement and here, let me give you an example of what I mean by that. And any of my clients listening right now will know that I stress on this heavily when it comes to our planning here at ONE Fire and Police, and it's something called sustainable withdrawal rates in retirement. [12:51.6]
Do you know how much you should be contributing to your deferred compensation plan? Are you getting the most out of your current investment options? Looking at entering or about to exit the drop program? go to www.pensionattention.com to find out how we can help. [13:07.1]
And if you're not currently working with us right now, and you're listening to this, this is the time where I would reach out to us because understanding your withdrawal rate, specifically your sustainable withdrawal rate, when you retire is vitally important to a healthy and happy retirement, you can give us a call at (805) 409-8150. You can also schedule some time by going to our website at PensionAttention.com, cause I really would advise that you give us a call or set some time to review this, if you don't know this and on that this sustainable withdrawal rates. A withdrawal rate is as many of you heard me say before, when I talked to stations or in our meetings, real listing as a client, withdrawal rate is a number that provides context. Okay. That's a key word for the amount you take out of your portfolio in a given year and it's expressed as a percentage of your overall assets. [13:58.1]
A simple way to determine this number and you've heard me say this before, is your outflows, okay, what your overhead is? That's your mortgages, your lifestyle expenses minus your inflows, meaning what you have coming in. Now, remember if you're in retirement and you're listening here and you're on pension already, what you have coming in is your pension. Now you may have some other things coming in and we'll build that on a unique and custom basis, which is what we do here at ONE Fire and Police, but again, your outflows minus your inflows and it's divided by your assets. The withdrawal rate is affected, not just by the income you need, which you know, including taxes, but it's also by your income sources. Again, whether it's pension or maybe other income you have in retirement. Let me give you an example and this is a hypothetical example, and I'm using this number because well, one, it's kind of a larger number, right? In a lot of prospective clients that I meet with within an apartment, have this number in mind, whether it's right or wrong, it's just a round number. It's a round number of a million dollars, and that could be comprised your deferred comp plan, your drop a balance at that point, maybe some VC and SK time that we roll over. [14:56.5]
But let's just imagine for a second a million dollars. And if you have a million-dollar portfolio and you're in retirement now, and you withdraw $40,000 a year. Your withdrawal rate back to my example, okay, is 4% $40,000 divided by a million. So, I think we can all can understand that math, but what is a sustainable withdrawal rate and why is dropped so important to this number? When you're planning your retirement and we here sit with you at ONE Fire and Police when we're calculating withdrawal rate. It’s just the start, okay. Understanding the impact of that withdrawal rate and how it changes over time is really essential to your financial security. You want to base your planning on a sustainable rate and really monitor the rate throughout retirement to make sure it remains sustainable. Simply put and I want to be very clear about this. You want to choose an amount that you can withdraw annually from your portfolio and still be reasonably certain you won't run out of money during your lifetime. [15:50.7]
Sustainable withdrawal rates are so important for us as your investment manager at that time point, because it sets you apart. When I sit with our clients, if you're listening here as a client, I want you to understand some of them. When we sit with you and plan through your withdrawal rate and we go through your sustainable withdrawal rate, okay. And we marry that in context of what we need to return in a portfolio, you are ahead of the game because 90% of people out there don't even understand what their withdrawal rate is. How do you know what you need to earn, if you don't know what you need to take? A rate of return will always only be 50% of the story. I love hearing people and overhearing people talk about the rate of returns and what they've done and everyone's return return return. And I get that, that's insanely important. I'm not trying to downplay that at all. But it will always only be 50% of the story, because if you don't know what you need to take, then you're shooting in the dark for a number. [16:42.7]
Back to my example, let's say that person I described as the hypothetical situation who had a million dollars and was taking $40,000 a year and that withdrawal rate was 4%, but they came in and didn't have enough education or discussion with their advisor around their risk tolerances and they were largely in cash. Whether that was because they were fearful of the market or didn't understand diversification or portfolio structure which a lot of people don't to be fair. And they were in cash because they were just scared and who wants to live in retirement, out of scarcity? No one does. And I don't want any of my clients living out of retirement in a scarcity like mode. But they're all in cash and they're withdrawing 4%. Guess what? They're going down 4%, each year, simple math would dictate that at 25 years, you're going to exhaust that account, right? 25 times four is a hundred percent. So, for example, let's say that same person in a hypothetical situation was withdrawing 8%. Okay again, back to my notion of understanding your sustainable withdrawal rates, making sure we match that with our investment philosophy. You should know that and understand that because if you're pulling 8%, you don't have a luxury. I hate to say it this way. You may not have the luxury of being conservative if you will, and only getting into bonds or cash, because you're drawing down at such a heavy rate. [17:59.6]
As you can imagine, there have been many studies that have been done over time, going back to the original study in 1994, by a guy named William Bengen. He actually found that initial 4% withdrawal rate was a hundred percent successful over 30 year rolling periods, which dated back to 1926. So, a retiree could have withdrawn $40,000 from a million-dollar portfolio and increased that $40,000 every year by inflation and never run out of money over any 30-year period. Again, a hypothetical, but sound research. But your individual sustainable rate will differ from someone else's and it will depend on your retirement planning horizon, right? How many years you have in retirement, or you want to have in retirement, we don't have that conversation with the wholly above, but how many years of retirement, the portfolio mix, which is the biggest conversation to be had here around this, you know, your relationship between stocks and bonds in your portfolio and the probability of success you are comfortable with. And drop plays so heavily into this, is why I bring up a withdrawal rate on a podcast around your drop program, because the rollover ability in concert with your deferred comp plan, potentially some VC and SK time, you may have any, any other assets you might have saved as well, brings that bottom line up for you to be able to withdraw from it and if you have a higher denominator, if you will, you can take more because if you took $40,000 on a million, that's 4% in my example, but if you needed $40,000 for retirement and you had only, let's say half a million, right? [19:29.6]
You went from 4% to 8%. So, it's a higher draw rate, which has a lot of impact on your rate of return. So yes, drop might be the Fosbury flop of retirement benefits. It's an unconventional unique way to again, attract new hires, but in this case scenario, retain and reward key employees. Those of you listening right now that are on the job already, that is you being able to work those years, if you're in tier five, for example, which many of you are having 25 years on and age 50, being able to drop, getting that roll over, getting that pension as well, and having a great asset base to go into retirement, with, to pull from as a sustainable distribution rate above and beyond your pension to live the happy and healthy retirement you want to have. [20:17.6]
Now real quickly, there's a Trinity study that I want to reference and it can assist in determining your sustainable withdrawal rates and something we'll talk with you on when we get together. But the study illustrates historical success rates using six different time horizons, everything ranging from 15 to 40 years in retirement. Five asset mix is basically a hundred percent bonds all the way up to a hundred percent stocks and 10 different withdrawal rates, everything from 3 to 12%. And what's interesting about this, why I want to bring this up was it was the work done by the guy named William Bengen who started this sustainable withdrawal rate notion showing that a 4% withdrawal rate over a 30-year period of retirement horizon with a 50% mix of stocks and bonds was a hundred percent successful. But what if you were more comfortable with a success rate closer to say, 85% for 30 years? [21:04.1]
Well, the Trinity study would indicate that a four and a half percent withdrawal rate would provide an 84% success rate of 50-50 mix or in about an 87% success rate using a 75% mix of stocks and a 25% mix of bonds, or maybe you'd want to plan for a 25-year retirement. You see what I'm doing here in the study with sustainability is something we'll do for you guys to understand where we can kind of tinker. We want to say, Hey, we want to project for 30 years of retirement. I don't know if I'll go that long. I want it to be 20 years, right? Or you want to look at a higher withdrawal rate. It's all about a balance and using historical data can help us in their studies out there like the Trinity study and like others that we can look at, but also really it's understanding where you are coming from, because this also plays a heavy heavily into your investment tolerance. A lot of people have talked about it, get you putting into a box of conservative or aggressive. I think last week we talked about on the podcast, you know, whether you're conservative or aggressive and how those words can be misconceived a lot of times, right? [21:57.0]
So, I really want to drill down for each of our clients here at ONE Fire and Police, if you're listening and you're not working with us, that's the time to meet with an advisor to really find number one, what your withdrawal rate is. And by the way, we're talking about drop today, drop plays a big role in that. So, you ever wonder why rollover is so impactful? That's one of the main reasons why. And so, drop might just be, like I said before, the Fosbury flop of all things, retirement benefits because it's unconventional, right? But it works and now it's kind of the standard practice, not necessarily in department, but we've used it. We've seen it in a lot of corporations doing different retention packages for clients. And so, it's kind of the, the way of keeping and retaining these key talents you guys listening here. And so, it's a great benefit, both for the city and for you. And so, we want to make sure that you understand how that works for you and how it works for your overall planning when it comes to retirement. [22:42.5]
Thank you for listening to Pension Attention next week on pension tension, we're going to be talking about the probabilities of success. We're going to be picking up a little bit on this withdrawal rate conversation we're having around drop and how that relates to your investment portfolio as we go into retirement. And those of you that are listening, that aren't necessarily near retirement, you only got five or 10 years on, it's still important because what you do today and your deferred comp plan, and this vehicle that builds up in preparation for drop matters. And the probabilities of success greatly increase if you get your planning in order now. I'm looking forward to it until then stay safe. [23:12.8]
The information in this podcast is educational and general in nature and does not take into consideration the listeners personal circumstances. Therefore, it is not intended to be a substitute for specific individualized, financial, legal, or tax advice.
To determine which strategies or investments may be suitable for you consult the appropriate qualified professional prior to making a final decision. [23:36.1]
