Financial Plan

Designing Your Client’s Bucket Plan®

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Designing a financial plan can be as much an art as it is a science. There are so many variables, assumptions, and unknowns that attempting to model out your recommendations can easily overwhelm a client or prospective client. Historically, the financial services industry (particularly financial planning software companies) have created an illusion that the thicker the financial plan, the better. This results in recommendations presented in a complex manner, confusing the client and resulting in an inability to understand and a reluctance to implement your recommendations. There is a critical need to deliver a simplified plan that a client understands. This is where The Bucket Plan® comes into play.

The idea of keeping things simple for a consumer/client has been around for decades, more specifically the power of keeping an idea to three points, called ‘The Rule of 3.’ Dubbed ‘the most persuasive number in communications’ and applied to business decisions and life by the likes of Thomas Jefferson, Steve Jobs, and countless other business leaders, it has helped frame complex ideas in ways people can remember.

The Now, Soon, and Later buckets use this idea to lay out an entire plan on one page – giving each bucket a specific function that is easy to understand. This philosophy keeps it simple enough on the front-end to give clients the confidence they need in their plan to move forward, without getting into the complex strategies that produced the numbers.

Planners may associate simplicity with lack of sophistication, but that is far from the truth. At a conference about seven years ago, a very accomplished financial planner stated that “if the plan can’t fit on two napkins, it won’t work.” He was being a little overzealous in getting his point across, but his message was loud and clear – simple sells. With The Bucket Plan, segmenting money into three buckets based on the time horizon, income needs, tax qualification, and the client’s goals doesn’t take complex software, but allows the planner to layer in as much sophistication as they desire behind the scenes.

When we take our car to a mechanic for repairs, we want a high-level assessment of what is wrong and what is needed to make the repairs. Unless you are an engineer or interested in automotive repairs, you probably don’t want an entire documented plan on what it takes to perform them. This is no different than how we should deliver our financial plans.

The Bucket Plan takes something complex and makes it simple to visualize. Once prospects understand their plan, the probability and pace at which they act on your recommendations will increase. Once you have gathered all the financial information from your client and have a clear understanding of their current situation and their volatility tolerance for each phase, it’s time to design their plan.

The Now Bucket

The first step in designing the Bucket Plan is to determine what portion of their investable assets needs to be kept completely liquid for the next year or so to cover expenses. Traditionally, this is divided into:

  • Income (0-12 months’ worth)
  • Emergency/comfort fund
  • Planned expenses

If your clients are retired or retiring within the next 12 months, they will probably have an income gap. This is the amount of money they will need to draw from their liquid investable assets to supplement their fixed income in retirement. If you have gone through the Income Gap Assessment with them, you have a clear idea of what this gap looks like. The Now Bucket should have enough to fill the gap for the first year. For example, if the client has a $25,000 income gap (retirement income needed minus fixed income in retirement), we know to place $25,000 in the Now Bucket.

The emergency fund is a separate amount. Instead of you telling the client how much they should keep in their emergency fund, The Bucket Plan takes a slightly different approach, asking the question “What is the magic number you like keeping safe and liquid in your bank account for peace of mind?” This makes it more interactive and allows the client to give you the amount with which they feel most comfortable. Whether this is $5,000 or $100,000, everyone has a number in mind that lets them sleep well at night because it’s there if they need it.

Planned expenses are for big purchases above and beyond their normal cash flow. A new car, a home purchase, or helping a child with wedding expenses all fall into this category. Whatever it may be, it is important to plan for these expenses without risking the funds since that will be needed within the next one to two years.

These funds should always be liquid and easily accessible. Checking/savings accounts, one-year CDs, or Money Market Funds are some of the primary vehicles used. You are sacrificing the potential rate of return you would otherwise earn by investing this money to know it is safe and liquid.

The Soon Bucket

If you are dealing with someone approaching or in retirement, the next step in designing your client’s Bucket Plan is to accommodate the inflation-adjusted income gap needed to satisfy their income needs over the next 10+ years. There are different strategies which can used to structure the Soon Bucket, each having a different formula to determine the amount of assets that are required to cover the gap.:

  • Draw Down (Bridge)
  • Lifetime Income (Floor)
  • Portfolio Income (Yield)
  • Non-Income Accumulation Potential (Accumulation)

The draw down (bridge) is the simplest of them all, but also most versatile. It is used to establish a steady income paycheck by following the basic formula:


Financial Plan

For example, if your client has a $25,000 income gap, and you want to secure 10 years of stable income to get them through the first decade of retirement, you can set aside $250,000 in the Soon Bucket knowing they can draw $25,000 per year for at least 10 years (assuming no growth or interest credited). If there is some interest or growth on the account, it might actually last them longer than 10 years.

In addition to their baseline income gap, you would want to allow for an inflation hedge; that way, if their cost of living rises, their income can rise as well. For simple math, you can increase the total draw down amount by 25% to account for inflation over the next 10+ years. In this scenario you would have $250,000 to support their baseline income gap of $25,000 per year plus another $62,500 which could be used to offset inflation.

The draw down approach can also be used when delaying Social Security until age 70 or funding Roth Conversions. If you have a client who is 65 with the opportunity to delay Social Security until age 70, you might structure a five-year bridge of income in the Soon Bucket to be spent down until they max out their Social Security benefit.

The draw down method can use a wide range of vehicles, from short duration fixed income to bond ladders to annuity products. The level of principal protection and liquidity needs will ultimately guide the conversation toward a recommendation. Depending on income needs and accounts available, calculating the most tax-efficient way to draw income will help determine which accounts are used to fill the Soon Bucket once the amount is calculated.

Lifetime income is another way to fill the Soon Bucket for a steady income stream in retirement. This method is only available through an insurance company with an annuity product. Typically ranging from 4-5% income payout for a 65-year-old, an illustration will help guide the amount that is needed to cover the income gap. Depending on the type of annuity selected, it may come with a cost-of-living adjustment (COLA) that will help fight inflation. If not, or if the COLA is too low, you will need to structure a portion in the Soon Bucket to accommodate an inflation hedge.

The third method of generating income from the Soon Bucket is a portfolio yield strategy, which will typically only be used with higher net worth clients. In order to determine how much income is needed, divide the annual income gap by the portfolio yield. When we think of yields, we generally think of dividends and interest. This method will generally require the largest amount in the Soon Bucket and the income could be variable-based movements in yields. For example, with an income gap of $50,000/year and a portfolio yield of 3%, it would require roughly $1.67 million in the Soon bucket. If the yield rates shift and the account only producers a 2% yield, the client will now only receive $33,400/year of income. Dividend stock portfolios, REITs, structured notes, and other bond funds could be used to structure these portfolios.

Occasionally, you may have clients that have no income gap. This could be a younger client who is far from retirement or a retiree who already has their retirement income covered through pensions, Social Security, rental income, etc. This is where other expected withdrawals or forced income comes into play. Sometimes, even with a comfort fund, there may be times when a client needs to pull out more to pay for a medical expense, buy a boat, or take advantage of an investment opportunity. This could also be money earmarked for short- to intermediate-term goals like college funding, a down payment for a new house, or buying a vacation home. This bucket allows clients to perform mental accounting and stay the course with their Later Bucket investments because they know their Now and Soon are stabilized.

The Later Bucket

The final step in designing the Bucket Plan is filling the Later Bucket. The Later Bucket is comprised of the remaining account balances after the Now and Soon Buckets have been filled. With the +10 years’ worth of income, the Later Bucket should not have to be touched for at least 10+ years, allowing clients to invest more aggressively with the confidence they can ride out a down market. These funds should now be focused on long-term goals, such as:

  • Growth
  • Lifetime Income (Floor) beginning more than 10+ years in the future
  • Healthcare/Confinement
  • Inheritance

The primary goal of the Later Bucket for many clients will be long-term growth/accumulation of their assets. For younger clients, this could be the bulk of their net worth, while it might be of less concern to retirees/pre-retirees. This is especially important when utilizing the draw down method, as the Soon Bucket will need to be reloaded once it can no longer support ~5 years’ worth of income – giving it time to wait out a down market. It is essential to be aware of the proportion of assets in the Later Bucket relative to the Soon Bucket. If the Soon Bucket is larger, even with a +10-year time horizon, there might not be enough in the Later Bucket to cover the income gap plus inflation down the road, if you are using a draw down methodology for income planning.

The second strategy that could be used in the Later Bucket, like the Soon Bucket, is the lifetime income or flooring method. For clients who are not yet close to retirement, or perhaps want to have a longer deferral period before turning on an annuity stream, lifetime income can be positioned in the Later Bucket to alleviate further draw down. For example, a newly retired client uses the draw down for the first 10 years because it requires the least amount of assets but likes the idea of an income floor for the rest of their lives. An annuity could be placed in the Later Bucket to reduce the amount needed when reloading the Soon Bucket in the future, ultimately when income payout rates are much higher (6-7%).

Other key aspects to consider when constructing the Later Bucket are healthcare/confinement needs expected in the future. Carving out a portion of the assets to help pay for vehicles such as Asset-Based LTC, Life Insurance with a Chronic Illness rider, or traditional LTC could be the difference between a client living a worry-free, happy life or depleting all their assets.

Finally, having a clear legacy plan, not just for any children or other beneficiaries, but for a surviving spouse, is critical when designing the Later Bucket. As we know, income needs stay about the same when one spouse passes away, and taxes increase due to single filing status. Funding a life insurance policy or an annuity with a joint income payout or death benefit enhancement could go a long way for a surviving spouse. It is also important to consider what types of accounts are being positioned in the Later Bucket. Roth and non-qualified monies are usually preferred due to their tax benefits upon death – spending the qualified assets down or converting in the Soon Bucket over time.

Combining these ideas, here are a few different case studies illustrating how the Bucket Plan might be structured for clients of all ages.

Example 1: Married couple age 65, just retired with income gap of $25k/year

Financial Plan

In this example, a couple that has just recently retired has an income gap of $25,000/year on top of Social Security. Looking at the Now Bucket, they mentioned $35,000 as the number they would like in their emergency fund, and, since they are just retired, they need a full year’s worth of income in the bank to cover expenses, too. There are no planned expenses within the next couple years in this scenario.

In the Soon Bucket, the draw down strategy is implemented to cover the $25,000 income gap x 10 years. By using Joe’s qualified assets while they are eligible to file as MFJ, we will reduce the tax liability on a surviving spouse later. Even with Social Security, the tax bill in this scenario will only be a couple hundred dollars. In addition, for the inflation hedge, the $250,000 x .25 = $62,500 provides us with enough to cover any increases we need to adjust over the next 10-15 years. Again, qualified assets are being used, but this time some of Sally’s are being layered in, too. With a current retirement age of 65, RMDs are a factor within the Soon Bucket time horizon, which should be considered. If the income gap or other income would have been much greater, non-qualified assets may need to be used to blend tax-efficient income, or we would have needed to increase the level of qualified assets to cover the taxes and have a NET payout of $25,000/year. When considering lifetime income or a yield strategy at the same income need, the lifetime income level would be approximately $25,000/.045 = $500k, and at a 3% yield, even more at $25,000/.03 = +$800k, not including inflation.

The Later Bucket is the remainder of the assets. In this case, the proportion of Soon to Later Bucket assets is roughly 1:2, which over time allows the Later Bucket enough of a cushion if growth is not to the desired level. The more tax-favored non-qualified and Roth assets are placed here as a benefit to the heirs and available for future income at even lower tax rates. Lastly, a concern for these clients was being a burden on their children and loved ones, so an Asset-Based LTC policy was positioned as well.

Example 2: Married couple age 71, no income gap but will have forced income through RMDs

Financial Plan

In this scenario, a 71-year-old couple is just starting to take RMDs from their qualified assets. They don’t have an income need, but their emergency fund in the Now Bucket is much higher than the other two. The couple’s ‘magic number’ is greater even though their income is already accounted for to help them sleep well at night.

The Soon Bucket is now primarily concerned about the next 10 years of RMDs. In this scenario, all the qualified assets are in the Soon Bucket, but if a client does not have much in non-qualified, this number might be less to have some amount focused on future growth. Taxes will be paid from the RMDs with no need to draw down the non-qualified assets at all.

The question then becomes, how do they want their RMDs working for them? A life insurance policy with a chronic rider is placed in the Later Bucket with a death benefit of $1 million. The annual premium is approximately $20,000, which after-tax is within their budget coming from the RMD withdrawals. Chronic illness is addressed with the rider, or the death benefit will pay out tax-free to the beneficiaries. In addition, the non-qualified can grow untouched and receive the step-up on basis when it passes to their heirs as well. This is very impactful when a couple’s primary concern is their children and setting them up with the most tax-efficient method available while also taking care of their own needs.

Example 3: High-income earning married couple age 31

Financial Plan

In this example, the clients are 31 years old with no real idea of when they want to retire or how much they will need. Starting with the Now Bucket, they stated their ‘magic number’ was $25,000 and they wanted to purchase a new car in the next two years for $20,000 after their trade-in value. Since they will not be retiring soon, no income gap is assumed as wages are expected to cover all expenses.

When structuring the Soon Bucket, they have non-qualified assets of $150,000, constituting an opportunity fund, or money they would like invested more conservatively in case something comes up. Additionally, they are funding a whole life policy. The cash value is available for loan distributions, and the death benefit is available if there is an unforeseen death to provide for the other spouse.

The Later Bucket is the remainder of the assets. All the qualified assets are positioned here since they cannot be accessed before age 59 ½. Even though the 401(k)/403(b) cannot be rolled over because they are still working, we map them into the Later Bucket to view the entire plan holistically. These assets should be positioned more toward growth for straight accumulation into the future.

For each scenario, the Bucket Plan can be structured in a myriad of different ways. There is no one correct portfolio or product that should be used in all instances, making the Bucket Plan completely product/ portfolio agnostic and allowing the advisor to do what is in the client’s best interest. As you review the client’s specific scenario, it will become a more consultative sales process to arrive at their recommendations – their needs will guide you to the structure. The process also allows you to document the evidence on why you are recommending what you do by breaking it out into Now, Soon and Later and giving a function to each segment, which ultimately helps an advisor sell their plan as opposed to selling the products.

While you’re on the go, listen to our podcast for more insight on how you can design your client’s Bucket Plan.

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