If you are approaching retirement, you have probably begun to think about how much you will spend once you are no longer working. There is a long-standing rule-of-thumb that suggests that most people end up spending between 70% and 80% of the income they had just before retiring. The rationale is that retirees spend less on things like housing, clothing, transportation. It turns out this may not be the case. Recent research indicates that spending in retirement is nuanced and varies. As a result, financial planning for seniors is extremely important.
What can you do in the decade or so before you actually retire to get ready? If you own a home and you have a mortgage, start making extra monthly payments, so that your mortgage will be paid off when you stop receiving a paycheck.
If you have consumer debt (e.g. credit cards), work towards paying off them. These debts often carry very high interest rates. So, if you use credit cards, make sure that you pay off the balance every month. Don’t carry a revolving balance.
If you have an auto loan, try to pay off it before you retire. Over the past many years, the big automakers have enticed Americans with very low interest rates. But a vehicle purchase that is financed with a low interest loan probably could have been purchased for cash at a price significantly below the financed price. You should plan to pay cash when you purchase replacement vehicles in retirement.
Sound financial planning for seniors who are approaching retirement includes paying off debts in advance. You will sleep better at night knowing that you don’t owe anyone money.
Estimate Your Spending
While there is no reliable simple estimate for how much people spend in retirement, if you are willing to put in a bit of effort, you can come up with reliable numbers.
First, determine all of the items for which you spend money. Let’s separate your spending into two broad categories. Your core or fixed living expenses are those that you expect to have the rest of your life. Examples include property taxes, groceries, and utilities.
Your discretionary or variable expenses are those that will change over time. Examples include travel/vacation, replacement vehicles, and home improvement projects. You won’t spend the same amount on these things and you won’t spend money on them every year. But these are often large expenses and you need to plan for them.
Financial planning for seniors involves projecting both fixed and variable spending.
Want to learn more about retirement planning? Contact our team at Springwater Wealth today to learn how we can help you develop a plan for your financial future.
Sources of Income
Now that you know what you will be spending in retirement, you should consider how you are going to pay for your expenses.
Unless you worked for one of the very large iconic American companies (e.g. Coca-Cola, 3M, or J&J) or the government, you will probably not enter retirement with a defined benefit pension plan. These plans pay a guaranteed income for life and they have proven so expensive to their sponsors that they have been largely abandoned.
Instead, you probably have a defined contribution retirement plan, such as a 401(k), 403(b) or a profit-sharing plan. These plans are funded with contributions from both employers and employees. When you retire, you will be able to roll this account into an IRA and take (taxable) distributions from it.
You will also have Social Security. Your benefit from Social Security will be determined by your earnings history and when you take your benefit. You will receive a full retirement benefit somewhere between age 66 and 67, depending on the year you were born. However, your benefit will increase by approximately 8% for every year you wait up to age 70.
You may have other income from rental property, part time work, savings and investments. Financial planning for seniors includes identifying all of your sources of income.
Live Within Your Means
Now that you know how much you expect to spend and how much income you expect to receive, you need to confirm that your income will be greater than your expenses. If that’s not the case, you will need to either reduce your expense and/or increase your income. Spending more than your income will lead to big problems in retirement.
What can go Wrong?
You will probably spend between 20 and 40 years in retirement. That’s a long time and there are no guarantees that things will go exactly as you planned. So, let’s consider what can go wrong.
You could live longer than you anticipated. You might think this is a good thing and it is, assuming you have enough income to pay for those extra years. Your plan needs to have a buffer, so that you can live 5-10 years longer than you expect.
Prices go up over time. Inflation has been low in the US for many years. But don’t count on this in retirement. You should assume that inflation could return to its long-term average of approximately 4% or even higher.
What will you do if you need help caring for yourself in retirement? This kind of assistance is expensive regardless of whether you receive it at home or in a facility. If you think you might need help at some point, you should have a plan to pay for it.
The current tax structure in the US is relatively low in historical terms. Given that the nation has a massive national debt and states are equally financially-challenged, you should plan to pay taxes at a higher rate than you do today.
If you have been investing most of your life, you know that the stock market is risky. There have been several market crashes over the past 30 years and they happen about every 10 years. So, you should be prepared for them during your retirement. In addition, you should be ready for a long period of investment returns that are lower than those of the past.
In summary, financial planning for seniors is the key to a secure retirement.