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It's All About the Income, Chapter 10: Let's Flex the Plan

In this chapter, author Michael Lynch explores the potential methods to making the most of your income by using your head and trusting your gut.

By Michael Lynch


Maria’s case is simple, instructive, and common. Like our current tax code’s standard deduction, it works well for nearly eight in ten Americans. It can scale both up and down depending on assets. It flexes to include such pleasant things as generous employer-provided pensions.

Keep in mind the task at hand—a lifetime of inflation-adjusted real income. Understand the job of each of its potential components:

  • A government-backed pool to provide liquidity and principal protection when financial markets decline or even collapse. 
  • A prudently invested pool to provide increasing income from interest, dividends, and sales of appreciated stock shares. 
  • Annuity products from insurance companies that provide a contractually guaranteed lifetime income.

No part is perfect. As discussed in Chapter Seven, each provides benefits and carries risks. None always gives you exactly what you want. But blended properly, these ingredients will get you what you need.

Let’s apply this to Bill and Sue, two big earners who were sixty-five and ready to retire. They enjoyed an upscale lifestyle and knew they needed $10,000 a month of spendable money to live their best lives. Bill looked forward to $3,000 a month in Social Security and Sue to $2,500. They had accumulated a retirement nest egg of $2.1 million in addition to a bank cash cushion of $100,000.


Our first task was to determine the pretax income they would need to put $10,000 a month in their pockets. While working, it’s not what you earn that counts but what you keep. When retired, it’s not what you withdraw but what hits your account. If Uncle Sam spends it, you can’t.

I used a spreadsheet model of the current year’s tax code to project taxes. You can use your old tax returns, mock up a new one, or get help from a tax professional. This is an important step, especially for those with substantial income needs. Our tax code is extremely progressive at high incomes, and as you spend more, you pay disproportionately more income tax.

At present, Social Security is taxed less heavily by the feds than other ordinary and earned income. The maximum taxed is 85 percent of the benefit. So only $56,100 of Bill and Sue’s $66,000 of Social Security would have to hit the federal tax brackets. After that, in this example, we are assuming the $2.1 million of investments are in pretax employer plans. All additional withdrawals from these plans will be taxed as ordinary income. Based on the 2021 tax code, this couple would need to withdraw $70,000 a year, or roughly $5,800 a month, to meet their needs. This would produce a pretax income of $136,000 per year ($66,000 + $70,000). The feds would get $13,200, or roughly 10 percent, and Bill and Sue would have just over $10,000 a month to enjoy retirement.

This set the target. Bill and Sue required $136,000 of pretax income to produce $10,000 a month to spend. Of this, $66,000, or just under half, was guaranteed by the US government.


They planned to move to a state with no income tax, so for the first time in more years than they could remember, they would get to spend $9 for every $10 they earn. While working, they sent nearly 10 percent of their income to the Social Security and Medicare systems. Now it was time to take it back. To their surprise, taxes didn’t appear to be a huge problem. That was a relief.

Back to the system. Bill and Sue had $2.1 million in assets to produce $70,000 a year in income. This was a withdrawal rate of 3.3 percent. At less than 4 percent, they were clearly in the safety zone.

They considered themselves to be middle-of-the-road or moderate investors and understood the need for capital growth to generate income growth. Still, they recalled the terror of the dot-com bust in the late nineties, the financial crisis of 2008, the brief but substantial drops in equity prices and account values in 2011 and 2014–2015, the Christmas collapse of 2018, and the COVID-19 dive in 2020. They wanted a substantial buffer to get through the bad times.


The first scenario they considered was all investments. They would rely solely on asset allocation to buffer the downs. They would put a full five years of required withdrawals, or $350,000, in low-yielding but fully liquid government-backed fixed-income investments.

This would leave $1.75 million to generate the annual $70,000 target. They would invest these funds in a well-managed portfolio expected to stay 70–80 percent in equity-based investments. They would take monthly withdrawals, use the sales to keep the portfolio in balance, send the taxes directly to the government, and spend what was left. Over time, the portfolio would be expected to grow and the income from it as well.

The risks of this approach included having just over half of required income subject to financial markets. Addressing this risk with the stable value bucket removed 16 percent of the investments from growth and income production. These monies would not be subject to market risk. They would not face inflation risk.

The advantages of this approach are simplicity, substantial reserves, maximum flexibility of use of assets, and expected growth of both income and assets in future years.



Something about this system made Bill nervous. More than half his income coming from unprotected investments didn’t quite sit right with him. I advised Bill and Sue—as I do all clients—to use their head but trust their gut, and Bill’s gut wanted a bit more certainty. So we moved to system two.

Here, we deployed an annuity strategy to supplement both Social Security and the pure investments. We researched many options, companies, and products. Sue didn’t like the idea of the single-premium immediate annuity. Giving up a large sum to an insurance company merely to have most of the income return to her wasn’t attractive. She worried about dying early but also living long, only to have inflation degrade the real value of the future income stream. She also wanted something left for her children and future grandchildren to inherit.

Bill felt that today’s rock-bottom interest rates were an anomaly. He worried that large amounts of government spending and Federal Reserve money printing would eventually lead to inflation. He was old enough to recall the 1970s and remembered how being on a fixed income went from a great condition to one of a steadily diminished lifestyle. He didn’t want to use any fixed or bond-based products for this reason.


Ultimately, they settled on the flexibility and transparency of a variable annuity contract that allowed them to invest in the financial markets through subaccounts but protect their income with a rider that guaranteed an initial withdrawal of 6 percent. This was 50 percent more than the safe rate from unprotected assets.

This sat well with Bill’s gut. Sue used her head and knew that there had to be costs for these benefits. They studied the prospectus and noted both the fees they would incur from the invested money and the potential for reduced income in the future. All withdrawals would come first from their invested money. The guarantee would be activated if the account ran down to zero. At that point, the lifetime income would be cut in half to 3 percent.


They understood the tradeoff. The product would provide more income early at the risk of less later. They would pay higher fees to guarantee that there would always be some later. Sue felt she’d spend more early in retirement, so she liked this feature. Bill, worried about inflation, understood that the guarantee might be eroded. Yet, he also knew that since he could invest the money in equity subaccounts, this product might grow in value and income. They both recalled an economics class they shared in retirement in which the professor echoed Milton Friedman: “There’s no free lunch.” Given the potential risks and rewards, they decided this was a lunch bill worth paying.

With this, Bill and Sue deposited $500,000 through direct rollover in a variable annuity with a guaranteed income rider. At 6 percent, this generated $30,000 of initial annual income. Add this to their Social Security payments, and they were up to $96,000 of guaranteed income, or 65 percent of their income need. Having two in three of his spendable dollars guaranteed put Bill at ease.

The income goal of $136,000 remained the same. Nothing in this change affected taxes. With $96,000 in initial guaranteed income, their remaining $1.6 million needed to generate only $40,000 annually. Sue noted that this move removed a lot of pressure from the invested assets. I agreed but quickly pointed out that it was properly understood as initial pressure—that is, pressure in the early years. Given the annuity’s structure, they may need to make up more income from assets later because of inflation or a drop in the guaranteed income.

Bill and Sue decided that they needed less safety on the asset side since they needed only $40,000 a year in income from assets and had the preponderance of income guaranteed. They reduced the liquidity bucket from five years of income to four years and deposited $160,000 in this account. They invested the remaining $1,440,000 to generate $40,000 in annual income, or just under 3 percent per year. They derived comfort from knowing that the low initial withdrawal rate would likely allow for more flexible excess withdrawals in early retirement and provide the buffer needed in the later years if the annuity income were reduced.


The system is a bit more complicated and a bit more expensive than the asset-only plan, but the couple reasoned that it’s akin to always paying extra for safe, well-powered cars with all-wheel drive. They cost more to buy and run, but the comfort of knowing they had the power to get out of harm’s way and the traction to make it through a blizzard was worth the extra cost. There may be no free lunch, but they liked what was on their retirement income menu.

The above article originally appeared as a chapter in It's All About The Income and is reprinted with permission from the author Michael Lynch. No parts of this article may be reproduced without correct attribution to the author of this book.

Read more of It's All About the Income


Chapter 1: The Paradox of Retirement Income Planning

Chapter 2: Safety First!

Chapter 3: Getting Risk Right

Chapter 4: Two Out of Three Ain't Bad

Chapter 5: Win by Winning

Chapter 6: How Long for the Rebound?

Chapter 7: Building Blocks of Success

Chapter 8: Assess Your Needs and Fix Your Target

Chapter 9: The System is the Solution