Many of our new clients come to us wondering how much they will receive from social security, pensions and their investments once they retire. However, how much you may receive in retirement is equally important as how much you need in retirement. It seems intuitive and relatively simple to outline, however few pre-retirees come to us with these figures in hand. Without connecting how much you may need with how much you may receive, it's close to impossible to determine whether or not your resources will be enough to allow you to retire comfortably.
If you are thinking about retirement and wondering how much you might need, this article may give you some things to think about.
1) Outline your current spending
You can create a budget and try to itemize all of your current expenses, however we find that many people underestimate their expenses as they forget certain costs or they make inaccurate assumptions regarding their spending in retirement. Another way to look at it is to simply look at your income while you are still working. If you are meeting your income needs during your working years, then you can simply start by taking your monthly net income and use that as a baseline for your estimated needs once you retire.
2) Make adjustments
Once you have a good baseline of your income needs, you will need to think about about any expenses that you are incurring today that you may not have in retirement. Key examples are mortgages or personal loans that may be paid off by retirement. Another example we see are clients who are providing financial assistance to their adult children. Hopefully those kinds of expenses can be dropped by the time you retire and thus would need to come off of your anticipated retirement income needs.
On the other hand, we might have expenses that we need to add. The most important is retiree health insurance. This is often one of the more expensive additional costs that many people forget about or underestimate. And we find that people's costs range widely depending on their situation.
Then there are new costs such as travel, maybe more golf, home renovations or other financial goals you want to account for once you retire. After making these adjustments, you may come to a figure you can use to answer how much you may need once you retire.
3) Look ahead into retirement
Most people think of their retirement as an event. But retirement is a new phase of life that can last for decades. During that time costs will fluctuate. Some expenses may continue into retirement for a period of time, then drop off. A good example of this is a mortgage payment that continues into retirement, but is expected to be paid off sometime within your lifetime. And as mentioned above, health insurance costs are often not linear. A couple who plans to retire will often have different periods of expenses; one person retires and they go onto the working person's health insurance, then they both retire and have private health insurance, then one goes onto Medicare while the other still has private insurance and finally, both are on Medicare. Each of these phases have differing expenses and income needs.
And don't forget about inflation. Just as you've seen during your working years, the costs of goods and services go up over time. This is called inflation. And over time, inflation can have a big impact on your spending needs. For example, a retiree needing $60,000 a year at age 60 would need about $100,000 at age 85 assuming just a 2% inflation rate!
Your next steps!
By following these steps, you should be able to come up with an estimate of how much you may need once you retire. As we mentioned in the beginning of the article, your income needs are only one figure you will need. Your next task is to focus on the other side of the equation which focuses on providing you the income you need to meet your income needs. This entails understanding your social security income benefits and comparing different claiming strategies, looking at different pension payout options and clearly defining how and when you will withdraw from your investments. Just as with your income needs, you also need to take into account variables that come into play with your income sources in the years to come. These include Required Minimum Distributions, how your income can impact your Medicare premiums, market volatility and keeping up with inflation.
This might all seem very confusing. However, this is what we do every day for our clients. We often work with them prior to retirement to help them outline their goals, then develop an income plan to help meet those goals. Our relationship continues into their retirement as we review their situation, help them manage their investments and make adjustments to their retirement or investment plan.
If you would like to talk to us about your retirement plan and answer the question of "How much will I need to spend in retirement?", we would be happy to help!
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