What does retirement mean to you? Do you dream of traveling, taking on a new hobby, spending time with the grandchildren or starting a business?
No matter your goals, you will need a plan to support the retirement lifestyle you envision while reducing the risk that you will outlive your savings.
When do you wish to retire?
Establishing a target age is important because when you retire will
significantly affect how much you need to save, as it determines how long your money needs to last.
- The longer you delay retirement, the longer you can build up tax-deferred funds in your IRAs and employer-sponsored plans like 401(k)s.
- Accrue benefits in a traditional pension plan if you have one.
- Medicare generally doesn’t start until you’re 65. How will you cover the cost of health insurance? Will you be covered under your employer’s plan? If so, what is your cost?
- Reduced Social Security retirement benefits for early election. You can begin your benefits at age 62, but you stand to take a 25% to 30% reduction in benefits. You can increase your benefits every year you wait up to age 70.
- Can you work part-time during retirement? You will have less of a need to use your savings, allowing them to grow. Plus, you may be eligible for health insurance with the employer.
How long will retirement last?
None of us know how long we may live, but look at your family tree to estimate your longevity. Statistically, women generally live longer than men. The last thing you want to do is run out of money before running out of time. See life expectancies in the accompanying table below from Michael Kitces.
Project your retirement expenses.
There are several rules of thumb on how much you will need in retirement, but the best way I have found is to do a little bit of work by knowing your true budget. There may be disappearing items such as your mortgage that will be paid off, or expenses that will be short-term, such as private health insurance prior to Medicare.
Most people discover that total expenses don’t change much once they retire. You may spend less on gas and clothing, but you’ll spend more on hobbies, travel, insurance and medical expenses. And don’t forget to factor in inflation.
Replacing your paycheck
Now that you have a handle on your monthly income requirements, think of retirement income sources as a three-legged stool: pension, Social Security, and your savings.
Any expenses not covered by pension or Social Security need to be made up with your savings. If the amount needed from savings is more than you have, your options are to postpone retirement, work during retirement, try to increase the earnings on your retirement assets, or to spend less during retirement.
Transitioning into retirement
When the big day finally arrives, your work is not finished. You will need to manage your assets very carefully in retirement to last as long as you need them.
- Review your portfolio regularly. It generally makes sense to become more conservative with your portfolio in retirement, but are you keeping up with inflation? It may make sense to continue to have a portion of your allocation in growth investments.
- Spend wisely. Be careful not to overspend the first few years. Spending down your principal may mean the account won’t grow enough to carry you through the later years.
- Know your options on any pension plans. Lump sum payout, single life, joint life, and period certain all need to be considered. If you are married, you need to know your spouse’s choices and which one makes sense for both of you.
- Do you know which assets to use first? Each person’s tax situation is different and should be reviewed for the best option. A professional advisor could save you in taxes over the long term. You are required to begin minimum distributions from your IRA at age 72, but starting distributions earlier might make sense from a tax standpoint, like if you’re doing Roth conversions.
There is no one-size-fits-all answer when it comes to retirement income planning. A financial professional can review your personal situation, help you sort through your options, and develop a plan that’s right for you.