Using Investment Goals At Betterment
Goal-based saving. The idea is prized among financial advisors—and our team at Betterment—but to the everyday investor, it can be difficult to put into practice.
TABLE OF CONTENTS
- What is a goal?
- What does a goal look like at Betterment?
- Retirement Saving Goals
- Retirement Income Goals
- Safety Net Goals
- Major Purchase Goals
- General Investing Goals
- How To Set Effective Goals
Why not just spend all your money today?
Well, probably because you’ll need to spend it in the future.
Most people envision things they want or need in order to be happy in the future. Things like having money just in case something happens, buying a house, having a kid (or two), sending your kids to college, and then finally, retiring. And amidst all of that, you’ll probably take some vacations, buy some cars, celebrate some anniversaries, etc.
These are all examples of what we, at Betterment, loosely call “goals.” A goal is a way to set aside money for a specific purpose and track its progress. Some goals are big, some are small. Some are soon, some are far away. Some are non-negotiable, some are just nice-to-have.
At Betterment, we help your money reflect your life goals. When you open an account with us, you can set up multiple goals to save into, track their progress, and we’ll provide guidance for each of them.
In this article, we’ll go through how goals work at Betterment, different account types (IRA vs 401(k)), asset types (stocks vs bonds), and how to set effective financial goals.
What is a goal?
Goals are one of the best ways to set a personalized, reasonable financial plan for yourself. When you set up a goal, you’re identifying the purpose you have for your money and what you want to achieve with it.
Betterment uses details about your goals to recommend the right account types, savings rates, and investments. The strongest financial plans consist of a set of prioritized, personal goals with the aim of helping you achieve the goals most important to you.
When you provide a target date (when you expect to spend the money) and target amount (how much you think you will want to spend), we use a technique called “asset-liability management,” which aims to match future balances with future spending. In other words, we try to ensure that you have enough money for when you plan to spend it in the future.
It’s ok if your goals aren’t clearly defined today or if they need to change in the future. As your goal becomes more refined, you can update it in your account. Since we know goals and priorities change over time, we make it easy for you to edit them.
What does a goal look like at Betterment?
One component of a financial goal is how much you want to spend, and when. For example, let’s say that you want a house downpayment and you think it would take about $50,000. Or, $120,000 for your child’s college tuition. Or $60,000 of annual retirement income for the 30 to 40 years you’ll spend in retirement. Any purpose you have for your money can be a goal, but they are most useful when you have an idea about the amount and timing. You can also personalize the name, cover image, and details of each goal.
Goal Types You Can Open At Betterment
- Retirement (Saving): for those still working and saving towards retirement.
- Retirement (Income): for retirees taking withdrawals from accumulated money in retirement.
- Safety Net: an accessible emergency or rainy day fund to cover a gap in income or unexpected expenses.
- Major Purchase: a one-time big purchase, like house downpayment or a new car purchase.
- General Investing: for when you don’t have anything you want to plan for.
- Cash Goals: for specific goals held in Cash Reserve.
At Betterment, you can set up as many of these goals as you want, and can change the goal type if the purpose for your money changes. You can also easily move money between goals.
Once you’ve set up your goals, we’ll advise you on the right account types and investments you should use to help reach your goals.
Each goal type comes with differentiated advice. For example, here’s a breakdown of the stock allocation advice, by goal type:
|Type of investing goal||Most Aggressive Recommended Allocation (typical start of term, depending on age)||Most Conservative Recommended Allocation (typical end of term, depending on age)||Anticipated term||Cash-out assumptions|
|Retirement||90% Stocks, 10% Bonds||56% Stocks, 44% Bonds||Up to 50 years||Shift to a Retirement Income goal at the target date|
|Retirement Income||56% Stocks, 44% Bonds||30% Stocks, 70% Bonds||Up to 30 years||Steady drawdown with dynamic withdrawal rate until target date|
|Safety Net||30% Stocks, 70% Bonds||30% Stocks, 70% Bonds||Targets date of achieving desired balance||Up to full liquidation at any time|
|General Investing||90% Stocks, 10% Bonds||55% Stocks, 45% Bonds||Recommendation is based on investor age||No liquidation|
|Major Purchase (House, Education, Other)||90% Stocks, 10% Bonds||0% Stocks, 100% Bonds||Between 1 and 35 years||Full liquidation at target date|
Each of these goal types requires a different strategy to reflect how it will be spent and what accounts are available. Betterment’s advice and technology builds a different investment portfolio for each type of goal, based on its details as well as your financial circumstances. The risk level for each type of goal is a customized stock, bond and cash allocation recommendation, which is designed to automatically reduce risk as your remaining time horizon falls.
For each goal type, we provide a maximum and minimum recommended stock allocation, based on your term, while making some assumptions about how you'll spend money from the goal. For example, whether you’ll spend it all at once for a Major Purchase goal or over time for a Retirement goal. You can choose a more aggressive or more conservative allocation in any goal type, including outside our recommendations. You can also select from a variety of portfolio strategies to reflect your personal investing views, such as our Socially Responsible Investing portfolios, or tailor your portfolio using our Flexible portfolio tool.
Retirement Saving Goals
If you are saving toward your future retirement, our retirement planning advice helps you make progress on your goal by using multiple accounts—including those held outside of Betterment (such as your spouse’s accounts) but synced into the retirement goal.
Almost every future retiree will have multiple accounts—IRAs, 401(k)s, 403(b)s, HSAs, and/or taxable investment accounts—that help contribute to their retirement savings goal. So, we developed our methodology to match reality as closely as possible.
In addition, retirement savings goals can utilize Tax Coordination™, Betterment’s approach to asset location. This increases your retirement spending by intelligently matching each asset class with the account that minimizes total tax drag costs—which are the lower take-home return you make once annual income taxes, capital gain taxes, and IRA/401(k) withdrawal taxes are taken into account—across all your funded accounts.
Our retirement goals use a glidepath, reducing risk as your retirement date nears. When you have 20 or more years until you retire, we recommend 90% stocks. We also recommend you reduce your risk level over time, targeting a 56% stock allocation on retirement day. Once retired, you can shift to the next goal type, Retirement Income, which is optimized to provide paycheck-like distributions in retirement.
Figure above shows a hypothetical example of a client who lives until they’re 90 years old. It does not represent actual client performance and is not indicative of future results. Actual results may vary based on a variety of factors, including but not limited to client changes inside the account and market fluctuation.
Retirement Income Goals
Once you retire, you’ll probably start taking withdrawals or distributions from your retirement goal. Betterment will recommend an appropriate allocation considering your age and years in retirement, and also recommend a regular distribution or withdrawal amount from your goal and retirement accounts.
Our advice takes into account a variety of factors to suggest a safe target amount or withdrawal amount:
- Current balance
- Desired monthly income amount
- Minimum acceptable income level
- Desired certainty about not falling beneath minimum income level
- Remaining life expectancy
For example, a 65-year-old person has a remaining life expectancy of nearly 21 years, according to projections used by the Social Security Administration. That is 21 years in which they will be both liquidating their portfolio but also investing their assets to support future years of consumption. With regards to the stock allocation, we seek to:
- Continue to generate above-inflation returns from your portfolio while in retirement
- Lower portfolio risk as you are further into retirement
Safety Net Goals
It’s almost certain that at some point, we’ll all experience a financial setback.
A Safety Net goal is a high priority for everyone. It’s there to protect you if you experience a gap in income or a large unexpected expense. It also helps you not feel guilty about withdrawing money if something unfortunate happens—that’s what it’s there for!
In crafting guidance for a Safety Net, we consider the possibility that you may not need to withdraw from it for a substantial period of time, and that we don’t want it losing buying power to inflation. When you do need it, it should be easily accessible and not significantly less than what you might need.
We start by finding the safest allocation that will match or just beat inflation. This can depend on both inflation forecasts and risk-free rates, but it usually ranges from Cash (if interest rates are high enough), to 90% bonds (10% stocks) to 70% bonds (30% stocks). This sets the Safety Net goal apart in that the recommended allocations are not based on your goals time horizon, but just inflation.
Since those allocations may come with some principal risk, we recommend considering a slight buffer in your Safety Net to ensure you have as much or more money as desired at all times. If you invest in Cash for your Safety Net, you won’t need the buffer, but you might not keep pace with inflation.
Major Purchase Goals
For a major purchase such as buying a car, a house, or even your child’s education, we usually anticipate spending the balance all at once, at a specific target date when you reach your goal.
As the time of your desired target date approaches, our recommended stock allocation will become more conservative to ensure you don’t experience large losses close to the finish line. This de-risking will happen automatically unless you set your own allocation or turn off our auto-adjust feature.
General Investing Goals
It may be that you don’t have a specific planning purpose that matches the goal types we’ve listed above. In that case you can use a general investing goal. You can still personalize the name, allocation, and portfolio strategy in these goals, and we still recognize them as goals in your account.
Since general investing goals have no specific spending plans, we consider them long-term goals where the balance might be used in retirement, to transfer wealth to the next generation, or convert your assets into a trust account at a later date. You can have multiple general investing goals for different purposes open at the same time.
Our stock recommendation is based on your age and will glide from a maximum of 90% stocks to a minimum stock allocation of 55% stocks when you turn 65.
We should note that by using a general investing goal, you could be exposed to unnecessary risk compared to using a more focused goal type.
How To Set Effective Goals
Our technology will work hard to help you set goals in realistic ways that match your financial situation. To align with our research on goal-based investing, it’s important to understand what makes for an effective goal.
One framework to thoughtfully determine a prioritized set of goals is called the S.M.A.R.T. approach, which stands for:
Make your goal specific.
A specific goal is one with a clear description and a well-articulated set of circumstances. For example, if you’re saving for a child’s college education, a goal that is specific might look like the following on paper:
“My goal is to pay for my child’s total higher education costs at a public university, including room and board, social events/clubs, and any other fees.”
By stating how many of the possible education costs you’re planning to pay for (i.e. “total”), the goal statement above provides much more information about the size and shape of the future expenditure.
Make your goal measurable.
Making a goal measurable means that you can tell how close you are to achieving the goal using numbers. Generally, this means quantifying the specific information you know about—setting an accurate estimate of the total of the expenditure you expect to make. Here’s what a measurable goal looks like using our example:
“My goal is to save a total of $800,000 to pay for all three of my children’s total higher education costs.”
The total expenditure should account for all the factors that went into making your goal specific, but it should turn the various social and philosophical decisions you’ve made about your goal into a numerical sum. A savvy goal-setter will also account for taxes in setting the target amount.
Ensure your goal is attainable.
As you define a goal, you should make sure it’s attainable. Attainable goals are future expenditures you actually have the capability to achieve. For instance, if you make $80,000 in a year, saving $800,000 over five years is likely not attainable because even if you could save 100% of your income, you’d still come up short of your goal amount. We can make goals attainable by giving ourselves more time to save, lowering the target, or earning more money each year.
Consider whether your goal is realistic.
A goal is realistic if you have the time, resources, and discipline to achieve it. Generally, your goals will only be realistic if you take into account the other goals you have in your life. For example, when saving for college education, you probably will also need to invest for your retirement. If you don’t prioritize your goals, you may end up being less able to save as regularly or as much as you’d like—which lowers your chances of achieving either goal.
Any goal should be time-limited.
The last step in developing a S.M.A.R.T. goal is to make sure the goal is time-limited—i.e. Every goal should have a target date.
Just as measurable goals quantify the total expenditure you expect to make, time-limited goals quantify the time you have to reach that expenditure amount. In most cases, you should try to set goals as far in advance as possible. For instance, rather than waiting until you have three children that will be going to college, it’s a good idea to start saving as soon as you start planning a family.
A time-limited goal should also consider how frequently you can plan to contribute to the goal. Will you save a portion of every paycheck? Or will you save just once a year? An effective time-limited goal might read like the following:
“My goal is to save a total of $800,000 over 18 years (by due date) to pay for all three of my children’s total higher education costs by putting aside at least $1,500 per paycheck per month.”
A Map Of Your Financial Picture
It’s totally okay to use estimated amounts and dates when creating goals you’re not quite sure of. In many cases, such as retirement or college savings, you might need additional research and external resources to predict how much money you’ll actually need to reach all the specific criteria of your goal. In getting started saving for a goal, it’s often better to be approximately right than to have no goal at all.
By using a financial goals framework, you’ll push yourself to think broadly about all the factors of life that affect your financial future while balancing the joys of today with the hopes of tomorrow.