Are you worried about whether or not you will have enough income in retirement? You are not alone. A recent study by the Employee Benefit Research Institute found that 61% of workers are very or somewhat concerned about having enough money to live comfortably in retirement.
In this blog post, we will discuss some tips on how to determine how much income you will need in retirement. We will also offer some advice on how to save for retirement and ensure that you have enough money to last throughout your golden years!
What you will learn:
- Retirement length
- Retirement expenses
- Sources of retirement income
- How much can I withdraw from my accounts
- Income and expenditure adjustments for shortfalls
HOW TO ESTIMATE IF YOU WILL HAVE ENOUGH INCOME IN RETIREMENT
There are many factors to consider when estimating how much income you will need during retirement including: Inflation, healthcare costs, longevity, taxes and housing costs. In addition you need to estimate the potential length of your retirement, what your expenses are likely to be at various points in retirement, what income sources you have, and how your income and expenses could change over the years.
Generally, most Americans perceive that retirement is the final (short) phase of life, but data suggests otherwise. Life expectancy is continuing to rise but the average retirement age has continued to stay under age 65. According to the Boston College Center for Retirement Research, the average retirement age in 2010 was 62 for women and 64 for men. The current life expectancy per the National Center for Health Statistics was 77 in 2020 based on the entire US population.
One interesting way to look at life expectancy is to calculate it based on those who successfully reach age 65. A report by the Society of Actuaries states that women who reach age 65 should plan on reaching 86.6 years old, while the average lifespan for men who reach 65 is 83.9. This means that it is common for a person at 65 to be alive for at least 20 more years on average.
Based on this data, if you retire at 65, chances are that you will need your retirement savings to last 20-30 years. This is a long time! And it is important to factor in the potential for a longer life when planning for retirement.
One way of estimating expenses is by creating a detailed budget with the various spending categories. Another estimation method is to take what you are spending now and back out work-related expenses such as retirement contributions, certain payroll withholdings, and commuting expenses. Then add in amounts for new or increased spending areas such as travel, dining out, or hobbies.
A common rule of thumb is that you will need 70-80% of your current pre-retirement income to maintain your standard of living in retirement. This estimate can be high for some and low for others. It is a good starting point, but it is important to tailor this number to your specific situation.
Transitioning from working life to retirement life is not easy and often takes some time to adjust. You will have a lot of free time, which may translate to more unbudgeted spending. During the first few years of retirement, some retirees report spending more than they did while working due to travel, hobbies, and home repairs that they now have time to complete.
Many like to think of retirement in three phases:
- The Go-Go Years- The early part of retirement where you travel and do the fun things people think of retirees doing.
- The Slow-Go Years-When you start staying at home more and start reducing spending.
- The No-Go Years- The later years of retirement where healthcare costs increase, and you cannot travel or be as active due to health, old age, or changing preferences.
SOURCES OF RETIREMENT INCOME
After estimating how much you will need during retirement to cover expenses, the next step is determining whether your income will be high enough. You calculate your income by totaling all possible income sources. For most Americans, these include:
- Retirement benefits from Social Security
- Defined-Benefit Plan/Pension
- Retirement savings
SOCIAL SECURITY BENEFITS
If you have been employed for most of your working life in the private sector, you are likely eligible for Social Security benefits. The purpose of this program is to offer qualified individuals a supplemental income. Most people receive Social Security benefits by acquiring enough work credits and applying for the benefit between 62 and 70 years old.
The Social Security Administration (SSA) has a Retirement Estimator that you can use to receive a projection of your retirement benefits. The accuracy of the projection varies depending on how close you are to retiring and how steady your income is. This is because someone who has years left to work can still contribute significantly to their social security benefits depending on their income.
Another way to get your estimated social security benefit is by looking at your Social Security statement. This personalized statement will estimate what Social Security income you can expect at different retirement ages. You can request this statement on the Social Security website.
Depending on your profession and your company, you may be entitled to a retirement plan called a defined benefit program.
Defined benefit plans, also known as pensions, are retirement plans that provide a future benefit based on years of service and salary history. The benefit can be in the form of a lifetime annuity or a lump-sum disbursement.
When reviewing a defined benefit plan's distribution options, you should consider your spouse.
Most plans offer pensions with survivorship options. These options provide your spouse with income after your death. Another possible option could be to take a lump-sum distribution and roll it over into an IRA.
The largest source of income for more and more people is money they saved in various forms of retirement and savings accounts. This is because most private employers in the United States do not have pension plans. Instead, retirement savings is contributed to accounts to grow over time. Some examples of accounts people may have are 401(k)s, IRAs, 403(b)s, and even after-tax investment accounts.
HOW MUCH CAN I WITHDRAW FROM MY RETIREMENT ACCOUNTS?
The answer to this question varies from one retiree to the next, depending on the lifestyle, savings available, health status, and willingness to adjust one's lifestyle. There are also specific methods people use to withdrawal money out of their accounts. We will go over two methods: the 4% rule and guardrails withdrawal strategy.
The 4% rule is a retirement distribution method where 4% of the current balance of your investments is distributed yearly as income. Using the 4% rule, your earnings and current expenses have little to do with what you can withdraw. This is because the amount withdrawn each year is always 4% of the value of your portfolio. For example, a $500,000 portfolio could give you $20,000 of income annually.
To see how large of an investment balance you need to have at retirement to receive a specific amount of income, divide your desired portfolio income by 4%. For instance, if you would like a $40,000 yearly distribution, you will need ($40,000 ÷ 0.04) $1 million.
Another method of distributing retirement accounts is the guardrails withdrawal strategy. This method allows for changes in the distribution rate over time depending on the growth or decline of the client's investment portfolio. It also allows for occasional large distributions if the investment portfolio stays within the guardrails. Clients like the guardrail approach better than the 4% rule because it allows for larger distributions at the beginning of retirement and offers more flexibility.
INCOME AND EXPENDITURE ADJUSTMENTS FOR SHORTFALLS
Ideally, the total of your estimated retirement income should be more than the estimated expenses. If that is not the case for you, there are some things you can do before retiring and after retirement.
Some of the adjustments you can make include:
- Increasing the amount of money you save for retirement before retiring
- Delaying retirement, perhaps until at least 65 when Medicare begins
- Cutting back on unnecessary spending
- Moving to a cheaper neighborhood and smaller home
- Working part-time in retirement
After working for many years, you deserve a quiet and stress-free retirement. Coming up with a retirement plan as early as possible is the best way to safeguard such aspirations.
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