One of the most popular rules of retirement is that you’ll need about 75 – 80% of your income prior to retirement, an average of 80%, to maintain your lifestyle in retirement. Perhaps this is true for some people. For most new retirees, however, following this rule is not going to give them enough money to life comfortably in retirement.
The assumption of the 80% rule is that, once you’ve retired, your financial needs will decline by about 25%. It’s true that you may be able to save on some expenses like wardrobe and $5 coffees, but there are other built in assumptions that probably don’t apply to your lifestyle.
Most financial retirement calculators assume that your home will be paid off and that your children will be on their own when you retire. But many people married late and subsequently put off having children until late so that they may still have children at home. Or perhaps they have children in college or children who have returned home after college. Many retirees are finding that their expenses are increasing, rather than decreasing. This means that a new model is necessary to figure out needs in retirement.
Perhaps you waited until you were forty to start your family. Many Baby Boomers did wait and now their nests are still quite full. It’s also possible that your children, who have already graduated from college, may need to move home because they can’t find jobs in today’s economy. You might love to have your children home, but they are definitely an expense.
Maybe you have taken a second mortgage on your home so that you could help your kids pay for college. This means that there’s no way you can pay off your mortgage before your retire, an idea espoused by most retirement planners. And you can’t sell your home and move to someplace smaller when your kids have moved back home.
If you have lots of retirement years ahead, it’s important that you have enough money put away so that you can live on the interest that your money makes, rather than living on the principal. It’s best to assume that your expenses will be more like 110%, rather than 80%!
If you retire early, you can expect your expenses to increase, unless your plan is to sit at home and do nothing. Most people who retire early are hoping to get in some travel, as well as having the time to indulge in some expensive activities and hobbies.
Taxes are Forever
Don’t expect to pay less in taxes once you retire. Taking into account that you’ll be getting Social Security, a pension, and that you may have investment income and retirement account payments, you could be in the same tax bracket as before. It might even be higher. And home owners, even those whose homes are mortgage free, had better plan on paying property taxes unless you happen to live in a state that doesn’t require them.
Health Care Costs are on the Rise
You may be in super health now, but your help will most probably decline at some time after retirement. Even day to day healthcare costs have increased significantly in recent years and that’s unlikely to change. A healthy lifestyle can help keep your health care costs down, but good health is harder to maintain as we age and a serious illness or accident or long term care can take your entire life savings.
Statistics Can Be Misleading
The U.S. Department of Labor’s Consumer Expenditure Survey says that retirees spend less than workers. In an article by Ty Bernicke in the Journal of Financial Planning, this financial planner states that statistics prove that you can expect your spending to go down about 25% for every decade after the age of 55. This means that a normal 75 year old would spend 50% less than someone who’s 45 to 54.
However, these statistics fail to account for unexpected expenses (long term care or life in a nursing home) or inflation. This is a very expensive mistake if you’re using these statistics in deciding the amount of money needed to retire. In your own personal retirement planning you’ll have to take a good look at your own lifestyle and expenses and come up with a plan that fits your needs.
Determining Your Needs
To get an idea of what kind of money you’re going to need in retirement, you need to take the time to jot down all of the fixed expenses that will continue into retirement. Then add in your hobbies, activities, and travel and estimate their costs.
Purchasing long term care insurance is a good idea. It’s relatively expensive but it’s just a small amount of what actual long term care costs. If possible, you may want to figure out how to pay off your mortgage. Then figure in inflation.
Perhaps you’ll come up with a figure that’s close to the 80% rule. However, it’s more likely that you’ll need 90% when you first retire and less thereafter. Be sure to factor in your own personal needs when coming up with how much you need to save for your own, personal, retirement needs.
Retirement planning and wealth building expert Mark T. Harris lives in Nevada. He’s been a big fan of money since he put his first savings away when he was thirteen. When not teaching about retirement issues, Mark loves to travel and surf the Internet.
Excellent post. As a financial advisor I totally concur that rules of thumb are not the answer for retirement planning. Each client’s situation is different and therefore requires a plan that is tailored to their unique situation. The other point is that financial planning is not an event, but rather an ongoing process. Things change. A plan for retirement should be revisited prior to and during retirement. Things change, sometimes adjustments are needed.
The point you raised about helping children is a biggie, and a very difficult one to plan for. It may be the single most compelling reason for the higher savings level. Most other expenses can drop–health insurance is replaced by Medicare for example.
But with adult children you may find yourself needed to trade up on a house instead of down, especially if they come home with children in tow (I know more than a few people in this boat). Then food and utilities will be higher as well.
It’s hard to plan for such an event, but the only way is to aim high (and keep those career skills sharp!)