MaxiFi Planner's goal is to show you your smooth, annual, discretionary spending from the current year through to the last year of the model. Discretionary spending is the annual spending allowance (net of fixed spending) that you live on. Annual discretionary spending is the primary output we evaluate in our financial model. The goal is to find efficiencies and advantages in the model that will allow us to raise that annual amount and the total amount over a lifetime.
But sometimes the annual amount is not smooth or even across the model. Looked at as a horizontal line, it can sometimes be represented not as a flat line, but as a stair step or even a series of steps upward, each plateau representing a new period of cash constraint (also termed liquidity constraint or borrowing constraint).
So what is happening when we see this constraint? What are its causes and fixes? After all, many people will want to find a way to pull that wealth from one of the future periods into the near-term period when it is more likely needed.
The basic explanation for the cause of cash constraint is running out of regular assets in a period so that near-term periods of time cannot sustain the same discretionary spending level as some future period of time. When a model is constrained, a quick look at the Annual Saving and Withdraw report will reveal one or more times (before the final year) when the balance reaches $0. The way to address this constraint depends on the causes.
So first we can list common causes of cash constraint all of which create a situation where the amount of future spending is greater than the amount of current spending:
- postponing Social Security til age 70
- receiving a large inheritance in the future
- postponing the start of smooth withdraws from retirement accounts too far into the future
- contributing too much to retirement accounts (saving too much now to spend more later)
- overspending in the near-term (see special expenses for example)
- having a mortgage that is large or other housing costs (the constraint period ends when the mortgage is paid off for example)
- retiring too early and thus not supplying the needed liquidity
Can't the program just address this situation automatically? An automatic fix doesn't work because not only is the constraint caused by a variety of possible reasons, the best fix for it is different for different people. You may prefer to start smooth withdraws sooner, the next person may prefer to not make that big purchase, the next person may prefer to quit contributing so much to retirement accounts, the next person may prefer to start SS sooner, the next person may want to compromise and address some of the constraint but not all of it, the next person may want to downsize the home sooner than they had planned, and yet another person may decide they want to work a few more years and so on. There's just too many causes of cash constraint and too many possible ways to address it for the program to apply a one-size-fits-all solution.
One common approach to addressing cash constraint is to use special withdraws from retirement accounts.
In order to understand this approach, you first need to be clear about the distinction between what the program calls "smooth withdraws" and "special withdraws." Smooth withdraws are withdraw amount calculated by the program to be the same each year from the "start of smooth withdraw" date set in Settings and Assumptions > Retirement Account and the "end of smooth withdraw" date (typically the last year of life, but it can be changed). Special withdraws override this smooth or even withdraw pattern.
In a case where there is cash constraint, say because of postponing Social Security to age 70, and a person is 62, the smooth withdraws that begin at age 65, for example, may not bring enough liquidity into this pre-70 period to raise the discretionary spending to the same as the post-70 period. When this is the case, the orange discretionary spending line makes a stair step up at age 70. Let's say these smooth withdraws are $35,000 each year from age 65-100. Perhaps the first experiment would involve starting the first smooth withdraw at age 62 instead of age 65. This extra two years of retirement account withdraws might introduce enough liquidity to do the trick.
If not, another approach would involve noting the smooth withdraw amount—say it's $35,000 each year shown in the retirement account report—and overriding this amount with special withdraws. To do this, view the retirement account setup in your inputs area and choose one of the non-Roth accounts and indicate special withdraws from age 62-69 in the amount of, say, $50,000 each year. In other words, you would be instructing the program to withdraw an extra $15,000 (in addition to the $35,000) more each year than was occurring with smooth withdraws only. The effect of this strategy is to pull money from the post-70 future into the pre-70 period, thus introducing the liquidity needed to make discretionary spending smooth so that the stair step line becomes a flat line.
Note that using the Maximization feature can sometimes create cash constraint because it may postpone Social Security to 70 or may start smooth withdraws later in life. This may create a situation where although the present value of lifetime spending is higher than the base profile, the shape of the discretionary spending line is not longer flat but instead as stair step indicating cash constraint. This may not be practical for some households even though it represents the highest lifetime discretionary spending. To prevent any lowering of the near-term discretionary spending, uncheck the box and enter 0 to indicate that living standard should not be lowered any at all in the maximization process. This condition will keep discretionary spending from going lower in any period of time at the expense of higher lifetime spending.