Retirement planning doesn't have to be something that costs you a Sunday afternoon. Take a few minutes to work through your retirement needs and build a plan to get you there.
Retirement planning is a mystery for a lot of people. Nearly half (39%) of households do not have a formal plan. While you probably don't need to map out a plan for every dollar you'll need in retirement; you do need a plan. Avoid the subject, and you risk becoming one of the 4.2 million Americans over 65 living in poverty.
That number isn't meant to scare you, but it should open your eyes a little if you haven't thought about what life will look like in retirement.
This article, the third post in our 5-week personal finance fix, will focus on retirement planning and what you need to know about your sandy beaches and little umbrella drinks.
Week One: Setting financial goals and how to make a budget you can keep
Week Two: Investing Basics and Beyond
What Does Retirement Planning Look like for You?
Many people put off retirement planning because they see no real need to start. It's likely more than a decade before most of us can tell our boss what to do with his weekly efficiency reports. Besides, if you are already investing money in an investment account, what more is there to retirement planning?
Quite a bit, as it turns out. While having an investment account is a good start, you don't know how much you'll need or how to get there until you think about what retirement will look like. Who knows, after mapping out your retirement plans, you might find that you've got a little extra in your current nest egg. Party!
Remember: Simply saving money and investing isn't retirement planning.
What does retirement planning look like for you? Ask yourself a few questions:
- Where do you want to live? This will affect your cost of living and maybe how much you will spend annually on travel. Retiring to those sunny beaches might sound great until you consider the cost of traveling to visit your grandchildren.
- Do you enjoy traveling, how much, and where? There are a few places on my bucket list (Hong Kong, Moscow, and Egypt), and I would like to take the occasional road trip around the United States. These trips are not going to be cheap.
- What do you enjoy doing as a hobby? I work so much that I haven't practiced a hobby regularly. I like to play pool and would probably do that more often in retirement.
- What gives you a sense of purpose in your life? This is a big one and unexpected for a lot of people. Much of our lives revolve around our careers; some fear losing that sense of purpose in retirement. Retirement planning is just as much about thinking about your goals and direction during retirement as it is about figuring out how to get there.
I cannot imagine not doing some amount of writing or investment analysis on a weekly basis. I enjoy my work and am fortunate enough that I'll be able to do it well into my later years, if only at a more relaxed pace.
Turning their hobby into a part-time paying job is probably the biggest question I get from readers and one of the best ways to think about retirement. Planning out how you can turn what you enjoy doing into something that will help you relax financially can be a great way to look forward to retirement.
If you're not sure how to turn your hobby into a side gig, check out this post on making money freelancing and nine websites to help you do it.
I'm still amazed at how much I make blogging and creating websites. I've turned blogging into a six-figure income in just three years, and I get to do it all from home! For the first time in my life, I enjoy what I do every day and don't think I'll ever fully retire.
If you've ever thought about blogging or making money online, I urge you to check out Make Money Blogging. It's a step-by-step guide to the nine strategies I use to make money on my websites, from the most straightforward methods that work immediately to the ones that make thousands a month. An Amazon best-seller, it's available on Kindle, paperback, or audio.
Realistic Retirement Planning: How Much Do I Need?
How much you will need to retire is likely the first question you ask even before knowing what retirement might look like. With an idea of what you'll be doing in retirement, you can start to look at costs and how much you'll need.
Your cost of living and what you want to do in retirement will have a lot to do with how much you'll need. The general rule of thumb is that you'll need about 80% of your pre-retirement income, but expenses can change as you get older.
The most significant difference is that you will no longer be saving for retirement, but you will also probably be paying less in taxes and not supporting your kids. Some other expenses you might not have:
- Mortgage Payment
- Transportation to work
- Work-related clothing
- Income taxes
While you may plan on traveling more, you may be able to take advantage of discounts by traveling during off-periods that you weren't able to schedule previously because of work. You may also snag some senior discounts for a lot of entertainment expenses.
Of course, medical care is one of the most significant and uncertain expenses in retirement planning. Budgeting out your expenses in retirement means checking out how much your employer is currently paying for your health insurance and making sure you can cover it. Fidelity estimates that a recently retired couple will need approximately $220,000 of their nest egg to cover their future medical expenses.
The Bureau of Labor Statistics regularly updates its consumer expenditures survey to measure how much people spend on different categories. While your spending will vary, it can be an excellent way to gauge how your spending might change in retirement. Notice that while spending for people 65 years or older decreases, spending for some items increases or becomes a more significant part of their total.
Motif Investing offers some helpful retirement planning calculators and one on college savings and investing. You put in your age, current retirement savings, and planned expenses in retirement, and the calculator will show you how long your retirement savings will last. It's a great calculator because you can play around with different items to see how they affect your retirement planning.
It's important here to talk about setting realistic goals for your retirement planning. If you come to your retirement number and then find that you must either save more than 20% of your income or earn a return of more than 9% annually to get there, you may need to reevaluate what retirement will look like.
Trying to save too much or earn outsized returns are two of the biggest reasons people fail in their retirement planning.
Saving more than 15% of your income for retirement is unrealistic for many people. Living well in your golden years is one thing but not if it requires a lifetime of living on pennies. Trying to save too much without enjoying life is a quick path to burnout, and it's likely you'll end up withdrawing retirement money and paying heavy penalty fees.
Worse than trying to save too much for retirement is aiming for unrealistic returns. A retirement portfolio should have a mix of different assets like stocks, bonds, and real estate. Over the twenty years to 2013, real estate and private equity funds have both posted average annual returns of around 11%, followed by stocks (9.5%), bonds (6.5%), and commodities (4.0%).
The percentage of each in your retirement portfolio will change as you get older and your tolerance for risk decreases but even an aggressive mix weighted to stocks and private equity should still include bonds and probably produce an overall return of 7% at best. As you transition to safer bond investments in the last decades to retirement, your average return will likely drop to around 5 percent or lower.
Aiming for super-high returns by overweighting risky investments will leave you at the mercy of the stock market and may wipe out your retirement savings right when you need them most.
How Do I Get There with Retirement Planning?
The best advice you can get for reaching your retirement needs is to start early. The chart below shows the monthly savings needed to grow your retirement savings to $1 million by age 65 at an annual 6.5% return. Even starting as early as 30 years old, you'll have to deposit more than $600 a month. Now consider that many will need more than a million to live comfortably in retirement, and 6.5% may be an aggressive assumption for returns.
Meeting your retirement financial security target is a combination of setting realistic goals and picking suitable investments. Investing for retirement is much more about asset allocation and getting free money than being lucky in picking stocks.
The table below presents a possible plan for asset allocation by age. Notice the heavier distribution to riskier investments like stocks and alternatives in the earlier years before shifting to safer bonds later in life.
Many people plan on social security as part of the money they will need to live in retirement. I'm not an alarmist and do think the government will hold up to at least some of its promise when I turn 67 in 29 years, but I am not counting on SSI benefits to pay for retirement.
First, social security doesn't pay that much anyway. The average benefit is just over $1,100 which may cover a few expenses but won't be enough to live on. Second, I plan on entering semi-retirement well before I am able to draw full benefit from the government.
If someone walked up to you and offered you free money, would you take it? You bet you would! But then why do so many people not take advantage of the company match on their 401K plan? These company-sponsored retirement plans continue to be the best way to save for your retirement and offer some great advantages.
- Your own contributions come out of your paycheck before taxes. If you are in the 28% tax bracket, that $100 contribution only costs you $72 because you would have paid the rest to Uncle Sam anyway.
- Most companies offer some form of matching. Even if yours is only offering a 50% match, it's free money. You will need to live on something in retirement, and you need to save for it. If someone is offering to help you do it, let them.
- The profit in your 401K is not taxed like your other investments.
“But I can't touch the money until I'm almost 60. I want control of my own money!” The Federal Limit for annual 401K contributions is $18,000, and your employer may only match up to a certain point. Max out your company match and have control of the money beyond that amount. Not taking advantage of free money is lunacy.
The graphic below compares the end value after 30 years for a 401K plan and a typical investment portfolio. Contributing to the 401K option means an ending value nearly three times higher by age 65, given the assumptions in the graphic.
Still, want to “control” your money? To reach the same value in your taxable investment portfolio ($665,219) and given the assumptions, you would need to work until you are 79 years old or boost your contribution from 6% to almost 17% of your income. Please, take the free money!
Not only can you take advantage of 401k plans and IRAs for free retirement money, but there are also other tax-free investing options that help you save on things like healthcare expenses and education. It's the best investing and retirement decision you'll ever make.
By knowing what retirement looks like for you, setting realistic goals, and a plan for how to get there, there is no reason why you would fail to reach those goals and enjoy your retirement years. This post isn't meant to be an exhaustive guide to retirement planning but it should get you started and includes the most important points to consider.
About the Author
Joseph Hogue is a financial expert and investment analyst. After serving in the Marine Corps, he started his career investing in real estate before becoming an investment analyst for some of the largest private investors. He's appeared on Bloomberg and on CNBC as an investment expert and has published ten books in personal finance. Now he helps investors reach their financial goals and invest in the stock market with some of the same advice he used when working for the rich.