Realistic Retirement Planning Series: Paying for Retirement
In our last two articles, we discussed two retirement planning variables: your spending, and your years in retirement. The third piece is calculating your retirement income.
Big picture, this requires two simple steps:
- Add up your guaranteed income for retirement (or at least as “guaranteed” as life ever gets), such as Social Security, retirement or survivor income, pensions, annuities, etc.
- Subtract your guaranteed income from the amount you plan to spend. The difference is the amount your retirement savings should cover.
Let’s say you expect to spend $50,000/year, and your sole source of guaranteed income is $20,000/year from Social Security. You’ll need $50,000 – $20,000 = $30,000/year from your retirement savings.
If you were planning for 25 years in retirement, you might think you’d need $30,000 x 25 years = $750,000 stashed away by the time you retire.
But it’s not really so simple.
Good news: Your unspent savings can continue to grow throughout your retirement. If we assume an after-tax (or tax-free) 6% return on your investments, you’d actually only need about $384,000 initially stashed away to draw $30,000/year for 25 years and not run out of money.
Bad news: Inflation. The same products and services you can buy with $30,000 today could easily cost $60,000 a couple decades from now.
So, you or your financial advisor should use retirement planning software to do the proper math. Fortunately, I have that. To draw an inflation-adjusted $30,000 out of your savings for 25 years, you’d want to start with about $500,000, assuming a 6% investment return (non-taxed) and 2.5% inflation.
Is this your final answer? Probably not. Returns, inflation, and your own income and retirement spending can all be more or less than expected. Plus, having helped families with retirement planning for almost 35 years, I’m well aware that each family is unique, with slightly different math almost every time.
So, have a retirement plan early on, to avoid having to work longer or spend less than you’d hoped to once you retire. Use planning software to ground your plan in realistic numbers. Revisit your plan approximately annually. These steps don’t guarantee success, but they’ll certainly stack the odds more strongly in your favor.
Written by John A. Frisch, CPA/PFS, CFP®, AIF®, PPC®