Interest rates continue to hover at historic lows despite the Fed’s announcement that it will slowly begin to raise rates in the near future. But retirement savers and retirees who need to draw income from their savings now have been caught between a rock and a hard place in the past few years. If rates remain at these levels, those who are trying to plan for their retirement need to be prepared to adapt to this environment with a few critical adjustments. Here’s what retirement planners and their clients will need to do in order to plan effectively in a zero interest rate environment.

Pay Off Debt

Instead of using money to earn a paltry rate of interest, it may make a great deal more sense to just pay off debts that are charging higher levels of interest. Credit card debt can go first, followed by car loans, consumer debts, student loans and mortgages. This is perhaps the safest way to improve your cash flow in a zero interest rate environment, because your debts will not be charging a zero rate of interest. A retiree who pays off his mortgage that was charging 5% interest has earned a considerably better return on his money than one who invests the same amount of money into a 10-year CD paying 1%. Nondeductible debt should be paid off first followed by deductible debt. (For more, see: Should Retirees Pay Off Their Mortgage?)

Look Outside the Lines

If you are looking for guaranteed instruments for your money, you can look at savings or Treasury securities with maturities of perhaps three to seven years. Although longer-term notes will have higher rates, this is not the time to lock in a long-term interest rate with your savings. Many brokers and investment professionals have access to CDs that are issued by big banks that pay higher rates of interest as well, and many of these have “sweeteners” that make them more appetizing, such as a put feature that allows buyers to redeem their CDs after a certain amount of time, such as five years. Some offerings even allow investors to receive a small bonus on top of their principal if they do this. Other offerings that may be worth your while include preferred stocks, which are not guaranteed but usually offer higher yields than CDs or government issues and trade within a stable price range. Utility stocks and other strong blue-chip stocks that have a solid history of dividend payments can be another source of stable income with a moderate degree of risk.

Beware of high-yield exchange-traded funds (ETFs) and bonds that are not classified as investment-grade securities. While these instruments pay higher yields than guaranteed bonds, they will also decline in price more than other types of bonds when interest rates start to rise. If you do decide to invest in this sector, you would be wise to buy individual holdings that have short maturities and then hold them to maturity in order to recoup your full principal. (For more, see: The History of High Yield Bond Meltdowns.)

Other sectors that have higher-yielding picks include oil and gas partnerships and ETFs and REITs that pass through the income that is generated from a group of properties. Although these offerings will take you out of bonds and put you into the equity markets, their prices will not automatically drop when interest rates do rise. And there are ETFs and REITs in these sectors now that are paying yields in the 3-6% range.

Writing covered calls on shares of stock that you own can provide you with another attractive method of generating income. This strategy may net you another 5%-6% with minimal risk. One thing to remember if you do this is that you may have to pay capital gains tax if you are called out on your shares. If that would be a problem, then you would want to write your calls on strike prices that are further out of the market and collect smaller premiums in return. (For more, see: How Negative Rates Could Hammer Your Retirement Savings.)

Pensions and Annuities

If you are considering whether you should start taking a guaranteed payout from your employer’s pension or an annuity, you may come out ahead by waiting for a while until interest rates are higher. Any type of guaranteed payout factors interest rates into the calculations that are used to determine how much you will get each month. Therefore, the payout in a zero interest rate environment is going to be lower than one where interest rates are higher.

If you own or are interested in purchasing an annuity, take a look at the indexed products that are available in the market right now. These vehicles will credit you with interest that is based on the performance of an underlying benchmark, such as the Standard & Poor’s 500 Index, or a volatility-controlled version of it. Your principal will be guaranteed inside the contract, and you can still usually take withdrawals of up to 10% per year out of them without tax or penalty. While the rate of interest that you make in them is not guaranteed, they have historically outperformed fixed annuities and other types of guaranteed instruments.

Indexed universal life insurance may be another viable alternative if you are looking to leave a legacy to your heirs. It will credit interest to your cash value in the same manner as an indexed annuity, but the cash value can be accessed at any time without taxation or penalty. You can also purchase accelerated benefit riders on them that will pay out a portion of the death benefit if you become disabled or need long-term care. Both types of products also have guaranteed income riders available at an additional cost, although the payouts from them are also calculated using current interest rates. (For more, see: How Index Universal Life Insurance Works.)

Find the Silver Lining

If lower interest rates are translating into less income for you every month, then this may be a good time to convert traditional IRA or qualified plan balances into Roth IRA accounts, so that you can squeeze that additional taxable income in under your current tax bracket. If your income is low enough, then you might even be able to use deductions or credits to pay the tax that might otherwise go unused.

The Bottom Line

Planning for retirement in a zero interest rate environment can be a tricky proposition. But there are several viable alternatives to guaranteed instruments that can help you to generate the income that you need with a moderate level of risk. Paying down your debts and living sensibly can also help you to stretch your dollars further. For more information on how to plan for your retirement, consult your financial advisor. (For more, see: Advisors: Have Clients Try on Retirement for Size.)

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