We all have an image of our retirement years. Many of us envision a time of relaxation and enjoyment. Some have specific goals in mind – to take that trip to the Far East or to finally spend more quality time with family.
But to reach your dream, you need to get practical. And that means making sure you will have the assets you need to retire, and the income you’ll need to see you through your retirement comfortably. Knowing that can help you determine when – or even if – you can retire.
There’s no time like the present to sit down with your spouse or partner and your financial advisor to take a serious look at the financial realities of your retirement dreams. When you do, the first question to ask is …
What Do You Need?
The most important factor in post-retirement life is your basic living expenses. So start by adding up your monthly essentials – including food, shelter, utilities, clothing, taxes, insurance, transportation and other unavoidable costs.
Don’t forget the costs of any family members who depend on you – whether a parent, child, or grandchild. Also, as you project these costs into the future, be sure to factor in the rate of inflation, which has averaged 2.5% over the past 20 years.1
From this calculation, you will have a good sense of what it takes to survive. But few people are content with mere survival, so the next question is…
What Do You Want?
To enjoy life after retirement, you will want to have enough monthly income for discretionary expenses. So now it’s time to calculate the cost of living well.
For example, travel is one of the most pleasurable activities for many people. But between airfare, accommodations, meals and incidentals, it can also be one of the most expensive. How many trips do you plan to take each year? Are you content to backpack your way around the globe, or do you prefer to stay in five-star hotels? Set a realistic budget that will allow you to enjoy your well-earned freedom.
Retirement is also the time to pursue the hobbies, passions and pastimes that you were too busy to pursue during your working years. So be sure to allow for the activities you enjoy most – whether that includes a health club membership, cooking lessons, opera tickets or winemaking equipment.
Keep in mind that as you age, what you spend your money on will change. How money is spent varies with individuals but, in general, when you first retire you spend more on travel and pleasurable family activities. As you hit your 70s and beyond you will likely need to spend more on healthcare — and many people underestimate the impact healthcare expenses can have on their savings. There are several options available to address these expenses, including health savings accounts and retirement health savings plans that allow you to set aside money to pay for healthcare expenses separately from the money you’ve set aside for retirement. Discuss the options with your financial advisor to ensure you’ll have the money you need as your priorities change.
What Can You Do Today?
Once you have a clear idea of both your basic living expenses and your discretionary expenses, it’s time to determine how to meet them.
Identify your sources of post-retirement income, which may include pensions, retirement programs such as 403(b) or 401(k) plans, non-retirement accounts (including bank and investment accounts), annuities, Social Security and earned income. Keep in mind that any stock- or bond-based investments – as well as their associated income – may fluctuate in value over time.
If these sources meet or exceed your projected expenses, congratulations – you’re in great shape for retirement. If not, don’t despair. There are a number of ways to stretch your retirement income, including:
Boost your investment income: With interest rates at historic lows, it’s difficult to live on the income from traditional bank accounts and money market funds. You may want to consider investing a portion of your assets in higher-earning investments, such as income-producing stocks (or stock-based mutual funds), or bonds (or bond funds). Please note that investing in stocks and bonds involves risk.
Consider a tax-deferred annuity: A tax-deferred annuity, sometimes referred to as a “private pension,” is designed to pay you an income that is guaranteed to last for your lifetime. The amount of income you will receive over time depends on how much you contribute, and how much your annuity account grows. You can choose a guaranteed annuity, which ensures a specific interest rate over a number of years and protects your savings against market volatility. Or you can choose a variable annuity, which offers the potential for higher returns in exchange for the risk of market-based fluctuations. Unlike most retirement plans, tax-deferred annuities have no contribution limits, allowing you to save as much as you want toward the future. In addition, you don’t have to begin withdrawing money until you reach age 90 – although you can begin withdrawing as early as age 59½. Be aware that guarantees are based on the claims-paying ability of the insurance company. For additional information on whether an annuity is right for you, contact your financial advisor.
Reduce your living expenses: Many people find that retirement is a time to downsize their homes – or leave them altogether. If your lifestyle and family commitments allow, consider moving to a location that offers a lower cost of living – such as a state that doesn’t tax retirement income. Or, consider joining the millions of expatriates who have moved to other countries where your dollars go further – such as Mexico, Costa Rica or Spain. Just keep in mind that you’ll continue to pay federal income tax as long as you remain an American citizen. Also, check to make sure that your Medicare or Medicare Advantage plan covers healthcare expenses in your new location. And don’t forget to budget for return trips to the U.S. – or for children or grandchildren to visit your new home.
Get the most out of Social Security: One of the most important retirement decisions you will make is when to begin taking your Social Security benefits. That’s because the age at which you begin taking benefits can make a huge difference in how much money you will receive from Social Security for the rest of your life. Put simply, the later you claim Social Security, the higher your monthly benefit will be. But there’s no one-size-fits-all answer to when to begin receiving Social Security benefits. Some points to consider:
In general, if you need to begin benefits earlier in order to cover your expenses, or if you are in relatively poor health, you should begin your Social Security income sooner rather than later. Otherwise, you may want to postpone receiving benefits until you reach your full retirement age, or perhaps even later.
Ultimately, the best time for you to begin receiving benefits depends on your unique financial circumstances. A chart on the Social Security Administration's website provides an example of how your monthly benefit amount can differ based on the age at which you begin receiving benefits.
Start now: When saving or investing toward retirement, the most important factor is time. The earlier you start, the more time your program has a chance to achieve its full potential. And the more time you have to benefit from the compounding of investment or interest income, which can multiply your gains. So don’t delay. Even a modest program that begins today can be more valuable than an ambitious program that begins years down the road.
Figuring out how much income you need to get to and through retirement may be reassuring, or it may be discomforting. But it’s a reality check that is essential to reaching your true goals.
1Source: Consumer Price Index for All Urban Consumers (CPI-U) over the 20-year period ending 12/31/2011.
This material is for informational purposes only and should not be regarded as a recommendation or an offer to buy or sell any product or service to which this information may relate. Certain products and services may not be available to all entities or persons.
There are costs associated with annuities, including surrender fees, early withdrawal penalties and mortality risk expenses. Also, depending on the financial company you choose, the availability of specific types of annuities and annuity features may vary by state. So always read the prospectus before investing.
Annuities are designed for retirement and other long-term goals. When you contribute to an annuity, your money must remain in it until you reach 59-1/2. If you make a withdrawal before then, the money will be taxed as ordinary income and you may be subject to an additional 10% early withdrawal penalty. Furthermore, if you choose to invest in the variable investment products, your money will be subject to the risks inherent in investing in securities. Keep in mind that there are inherent risks associated with investing in securities including loss of principal.
The tax information provided in this document is for general informational purposes only – it is not meant to be used, and cannot be used, by individuals to avoid federal, state or local tax penalties. Taxation varies depending on an individual’s circumstances, tax status and transaction type; the general information provided in this publication does not cover every situation – for complete information on your personal tax situation, you should always consult with a qualified tax advisor.
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