Financial planning prior to retirement is focused on asset accumulation, tax minimization and maintaining a budget that allows for maximum savings. Retirement financial planning however is focused on these different objectives: maintain an adequate income without salary or wages, maximizing pension and social security, having adequate health and long term care protection and minimizing financial risk.
You can't know for sure if you have adequate resources until you do some number work. If you find this nitty gritty of retirement financial planning to stretch your patience, than hire a retirement planner or CPA.
Here are the steps:
1. Estimate your retirement spending needs: housing (including new furniture and updating), food (including dining out), insurance (including long term care), personal expenses, vacations, entertainment, utilities, transportation, taxes (income and property), etc. Add to this list anything that applies to your desired lifestyle. Add up the total and now you know how much you need, which is step one of your retirement financial planning. Let's say this figure is $50,000.
2. Next, you want to see how much you have and create a retirement income plan. Add your sources of retirement income including social security, pensions and annuities. From any savings such as IRAs and 401k and other investment accounts, assume a withdrawal rate of 5%. So if you have a nest egg of $500,000, assume that you can take 5% annually and the nest egg should be fairly safe at least for 30 years (see results of the Trinity Study ). Note that just to maintain your standard of living, you need to always leave some earnings behind in your nest egg to account for inflation. An item that costs you $10,000 this year will cost you $10,300 next year. Even if you don't care about having anything left and want to spend more, you don't have much wiggle room. For example, if your nest egg were to earn a constant 6% annually and you withdraw 8% annually of your beginning balance, you exhaust the fund in 23 years. You could easily outlive your money and that's why it's important to stick to the retirement financial planning 5% rule.
3. Compare your total sources of income from step 2 and your expenses from step 1. If you have excess income, congratulations--you're a retirement financial planning master! If you have a deficiency, you have a few options:
- adjust your lifestyle and spend less
- maintain your lifestyle, but move to a less expensive area of the country or out of the country
- work part time in retirement
- retire later -- by working a couple more years, a $500,000 nest egg growing at 6% accumulates an additional $61,000. That additional principal provides an additional $3050 of spending money annually.
Note that later in life, say at age 75, you may switch your strategy and decide to "annuitize" some of your assets--i.e. spend them down to zero and give yourself more income today. The safest way to do that is with a life annuity as payments will last as long as you do. Consult the immediate annuity calculators for annuity payments.
Although this is a stripped down version of comprehensive retirement financial planning, it's more than 95% of retirees ever plan.
Todd Beardsley says
One big problem that many people have is that they don't live within their means. They may make $75,000 a year, but they spend money like they make $175,000. Of course your advise of making a budget would solve this.
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[email protected] You need a budget says
I'm a firm believer in proper budgeting and have set up mine many years ago accordingly. Unfortunately, some individuals spend like a drunken sailor when they're young, and start too late in life planning for retirement. Others, as mentioned above, live so far beyond their means and instead of retiring their debt, they have to take on more. I guess that's life!