How Retirees Can Hit the Income 'Sweet Spot'

Withdrawing funds from your portfolio is not the only way to capture income. It's possible, financial advisors say, to construct an income stream from mutual funds that include dividend-producing stocks. Combine that with some bond funds and maybe an offbeat product or two that throws off passive income, and your portfolio might grow and yield reliable income.

Start by examining the dynamics of your existing portfolio to be sure you understand how it yields either growth or income, says Larry R. Frank Sr., a Roseville, California, investment advisor. He subscribes to the philosophy of "total return," which scrutinizes both growth and income vehicles to detect multiple streams of retirement income.

Devoting part of your portfolio to immediate income is "like thinking of it as an account at a bank -- you are spending the interest but keeping the principal," Frank says. The top-line value of your portfolio will fluctuate depending on the amount of immediate income you skim off -- or not -- but the core value will remain the same, Frank explains. "Your goal is to take only a percentage of the money that comes in through dividends and bond interest, and to always be reinvesting some, so that when the market does misbehave, you can buy more at lower prices," he says.

Frank and other advisors say it's not smart to weight your entire portfolio toward a single type of income -- even if it seems prudent to, say, be invested mainly in dividend-producing stocks or funds, or in bonds or bond funds.

Financial advisors say it's smart to balance not just for income but also for short- and long-term volatility of the funds, equities or bonds. Create a mix of growth and income stocks and short- and long-term bonds that should balance each other as economic growth waxes and wanes.

Meanwhile, plot a spending plan. Outline how you will take the income and how that income plays into your total income. When you invest in a stock fund, you choose how to direct the dividend income: to be retained in the fund or sent to you.

Either way, advisors say it's essential to consider dividend income as discretionary, used to pay for extras like vacations and gifts. Your baseline living expenses need to be covered by sources of income that do not fluctuate, such as annuities, long-term bonds, pensions and Social Security. These guaranteed sources of income will cover housing, health care, taxes and daily living expenses.

Rick Foster, president and founder of Guardian Financial Management Inc., which is based in Lewisville, Texas, calls dividend-paying stocks a "conservative growth" category that complements core income sources and effectively serves as a retirement "paycheck." "Dividends aren't guaranteed," says Foster, even though other advisors agree that companies try hard not to trim or eliminate dividend payouts.

To understand the range of change in your income-producing portfolio, track the portfolio's results over several years. You'll detect the portfolio's parameters. Of course, you don't want to count on income delivered when the portfolio hits the top of its range. To be safe, Frank says, figure that you will take income of about 80 percent of the midpoint of the range. If a downturn hits and the income shrinks, you will probably still get most of what you were accustomed to getting. (But you'll need to adjust your expectations and spending going forward, he adds.)

A few income-producing vehicles are just outside the mainstream. Some real estate investment trusts, for example, throw off income. REITs, which trade like stocks, hold income-producing portfolios of investments such as office buildings, apartment buildings, industrial parks and the like. Typically, the underlying values of REITs change gradually, and real estate assets usually have predictable expenses and income.

Foster is a fan of a little-known strategy that pivots on a fixed-income universal life insurance policy. Proceeds from life insurance policies are not taxable, and it is possible, he says, to borrow from the policy tax-free, with the policy essentially paying for itself when the death benefit kicks in. The goal is to "overfund" the life insurance policy by accumulating cash.

"It works like a Roth IRA on steroids," he says. "Your policy will accumulate cash because you've minimized the death benefit."

Cultivating income from your portfolio requires diligence, advisors agree.

Andrew Jamison, a certified financial planner with Main Avenue Financial Services in Beaverton, Oregon, says you'll need to monitor the performance of stocks and equity funds that you expect to deliver spendable income. (He recommends Dividend.com as a good source of data about dividend-producing stocks and funds.) For example, you will want to understand how companies calculate the date of ownership for purposes of calculating dividends, so you correctly time any buying or selling.

Nurturing income from a balanced portfolio, he and other advisors agree, is never a matter of "set it and forget it."