Q: How should I determine how much income I will need in retirement?
A: You may have heard or read that you need about 70% of your salary to live comfortably in retirement. Even though this estimate is frequently repeated, that doesn’t mean it is true for everyone. It may not be true for you. When it comes to retirement income, a casual assumption may prove to be woefully inaccurate.
Several factors, which oftentimes are not considered, will affect retirement income needs. Without careful planning, you may underestimate such things as medical expenses, your life expectancy, inflation, and lifestyle costs.
Health
Most of us will face a major health problem at some point in our lives – perhaps even multiple or chronic health problems. Even though none of us want to think about that reality, you should consider how the costs of prescription medicines and recurring treatment for chronic ailments could really take a bite out of your retirement income, even with a great health care plan.
Heredity
If you come from a family where people frequently live into their 80s and 90s, you may live as long or longer. If you retire at 55 and live to 95 or 100, you will need 40-45 years of steady retirement income.
Portfolio
If you haven’t reviewed your investment portfolio recently, you may find that your asset allocation may no longer be appropriate for someone nearing retirement. As you enter retirement, you should be careful not to carry too much risk in your investment portfolio. Too much risk could result in your retirement income fluctuating wildly with the potential ups and downs of the market. On the other hand, if you are a super-conservative investor at retirement, your portfolio may be so risk-averse that you won’t earn enough to keep up with even moderate inflation, and over time, you may find you have less and less purchasing power.
Spending habits
The “70% of salary” rule anticipates that a retiree’s spending habits will change drastically upon retirement. That may not happen. If you are like many retirees, you will probably spend closer to 90% or 95% of it. Most people only change spending habits in response to economic necessity or in pursuit of new financial goals. Typically, people don’t want to “live on less” once they have had “more”.
Social Security
In 2005, SSI represented 39% of a typical 65-year-old retiree’s income. But by 2030, Social Security may only replace 29% of that income, after deductions for Medicare premiums and income taxes. This is all presuming Social Security is still around in 2030.
Count on Your CPA
As you start your adult financial life, it’s a good idea to get to know your local CPA. He or she can help you understand your choices and make the best decisions for your financial future. You may contact me at (409) 892-0233 or (409) 883-5306. My email address is brad@ekc-cpa.com.
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