YOUR MONEY
By Bill DeMarco
Retirement is essential, but where do you start? One of the first steps is to estimate how much income you’ll need to support your retirement lifestyle. This task is challenging because retirement planning is not an exact science, and your needs will vary based on your goals and several other factors.
Current Income
A common approach is to estimate your desired annual retirement income as a percentage of your current income, often ranging from 60% to 90% or more. This method is simple and based on the idea that your current income supports your present lifestyle. By reducing it slightly, accounting for expenses you’ll no longer have (like payroll taxes), you might sustain a similar lifestyle in retirement.
However, this approach might not suit everyone’s needs. If you plan to travel extensively or have other significant expenses in retirement, you might need 100% or more of your current income. It’s helpful to use this percentage as a starting point, but it’s crucial to review your current expenses and consider how they will change over time as you transition into retirement.
Project Expenses
Your retirement income should be enough to cover your expenses. Estimating these expenses can be challenging, especially if retirement is far off. Here are some common retirement expenses to consider:
- Basic Needs: Food, clothing, housing (rent/mortgage, property taxes, insurance), utilities and transportation.
- Insurance and Health: Medical, dental, life, disability, long-term care insurance, and out-of-pocket healthcare costs.
- Taxes and Debt: Income taxes, capital gains taxes and debt payments.
- Education: College expenses for children or grandchildren.
- Gifts and Savings: Charitable donations, personal gifts and contributions to investment accounts.
- Recreation: Travel, dining out, hobbies and leisure activities.
- Care Needs: Costs for assisted living, nursing homes or in-home care.
- Miscellaneous: Personal grooming, pets and memberships.
Remember that the cost of living will rise over time, and your retirement expenses may change yearly. For instance, you might pay off your mortgage or children’s education early in retirement, but healthcare costs might increase as you age. To protect against these variables, it’s wise to build a cushion into your estimates. Consulting a financial professional can help ensure your projections are realistic.
Decide When to Retire
Determining when you’ll retire is crucial in estimating your retirement needs. The earlier you retire, the more years of income you’ll need. This decision depends on your goals and financial situation. Retiring at 50 might be appealing, especially if you’re financially secure, but it will require significantly more funds than retiring at 65.
Estimate Your Life Expectancy
Life expectancy is another critical factor in determining how long you’ll need retirement income. While no one can predict exactly how long they’ll live, you can use tools like government statistics, life insurance tables, or life expectancy calculators for a reasonable estimate. These estimates consider factors like age, gender, health and family history. Given the trend of increasing life expectancies, it’s wise to plan for a longer retirement.
Identify Your Sources of Retirement Income
After estimating your retirement income needs, assess your readiness. Consider what sources of income will be available, such as:
- Employer Pensions: Monthly benefits from a traditional pension.
- Social Security: Estimate your benefits through the Social Security Administration’s website.
- Retirement Plans and Investments: 401(k)s, IRAs, annuities, and other investments.
- Part-Time Work: Income from working during retirement.
The income you receive will depend on factors like how much you invest and the rate of return.
Addressing Income Shortfalls
If your estimated income falls short of what you need, there are steps you can take to bridge the gap:
- Cut Current Expenses: Save more for retirement by reducing current spending.
- Adjust Investments: Shift to assets with higher growth potential, keeping in mind the risks.
- Reevaluate Retirement Goals: Consider lowering your expectations for retirement to reduce needed income.
- Work Part-Time: Supplement your retirement income with a part-time job.
- Delay Retirement: Postpone retirement for a few more years to save more.
A financial professional can help tailor a plan that meets your needs and ensures a comfortable retirement.
