The Myth of the Magic Retirement Number
There are plenty of formulas you could try to see if you're on track, but before you start plugging in numbers, it's helpful to look at the big picture first. Here are five factors to consider when setting your retirement savings goal.
Most people realize the importance of saving for retirement, but knowing exactly how much they need to save is another issue altogether.
The conventional wisdom is that you should draw no more than 4% of your retirement accounts, coupled with any entitlements, each year for living expenses. However, that advice may not be as effective as people are living longer in retirement than ever before. Many people want to continue their lifestyle as they did in their working years, or possibly even be more lavish.
From something as small as setting up a 401(k) at your first job to looking at advanced longevity studies, you should take note of where you are in the retirement-planning process as well as thinking about how you are doing. Depending on your own situation, lifestyle, goals and the type of retirement you hope to have, the actual amount you need to save for retirement may be higher or lower than conventional thinking.
While there may not be an exact number that will apply to your situation, planning for retirement is about having confidence and freedom. There are some seen and unseen obstacles in your path that you may have to deal with along the way. Here are five factors to consider when determining a retirement savings goal:
1. Retirement Age
Many people anticipate that they will retire later than they actually do. The discrepancy can be seen in the latest Retirement Confidence Survey from the Employee Benefit Research Institute. The survey shows that while 38% of today's workers expect to retire at 70 or older, only 4% actually left the workforce that late. Unexpected issues, such as health problems or workplace changes (downsizing, etc.), tend to stand in their way.
Of course, the earlier you retire, the more money you will need to last throughout retirement. It is important to prepare for unanticipated occurrences that could force you into an early retirement. Markets go up and down, but planning for retirement will require sacrifices today for rewards in the future. Having a long-term, written plan that you review regularly can help make the bumps in the road seem less harsh while going over them.
2. Life Expectancy
You should take into account your family history — how long your relatives have lived and diseases that are common in your family — as well as your own past and present health issues. Also, consider that life spans are growing with recent medical developments. More people will be living to age 100, or perhaps even longer. According to AARP, today in the United States, people 100 and over represent the second-fastest-growing age group. Those over 85 are the fastest-growing segment of the population.
Longer life spans are becoming the new normal these days with advances in health, diet, nutrition, medicine and quality of life. There is a good chance that you will need more money than you are planning for just on an annual basis if the years spent in retirement are longer than you think.
3. Social Security
Many retirees believe that they can rely on their future Social Security benefits. However, this may not be true for you in the future as it once was in the past. As a budget item, Social Security is fast approaching the $1 trillion mark. The Social Security system is under increasing strain as more Baby Boomers are retiring and fewer workers are available to pay their benefits.
Even if no benefit cuts were to occur, the after-tax benefits of your check may not be enough to cover your particular needs. In 2017, the average monthly benefit for retired workers was $1,369, according to the Social Security Administration. With more people living longer and better lives, you should consider what your living expenses are very carefully when making the projections of what you will need. The SSA has a calculator that you can use to project what you will need in today’s dollars or even in future dollars.
If you think you have accounted for every possibility when constructing a savings goal but forget this vital component, your savings could be far from sufficient. Inflation has the potential to lower the value of your savings from year to year, significantly reducing your purchasing power over time. It is important for your savings to keep pace with or exceed inflation. Regardless of how much you save, if you do not prudently invest, then that saved money will not buy as much in the future as it did today due to rising prices.
Think about how much a gallon of milk, a movie ticket, a car or even a house cost 30 years ago compared to what they do today. Now think about 30 years into the future. Kiplinger ran a story recently about inflation projections for 2018 being higher than in 2017.
The bottom line is that even if you’re retired, you still need to be in the stock market to keep ahead of inflation. I recommend that my clients — even those who have retired — position their accounts with growth in mind at first and then take on less risk in looking for current income as they advance through their retirement years.
5. Health Care Needs
Health care costs have been rising much faster than general inflation, and fewer employers are offering health benefits to retirees. According to a 2017 Fidelity report, the average couple retiring at age 65 will need $275,000 to cover their medical expenses through retirement.
Long-term care costs are another factor, considering that the median annual cost of a private nursing room is $97,455. These costs could severely dip into your savings and even result in your filing for bankruptcy if the need for care is prolonged.
There are no two ways around it: If you have an emergency, then your retirement plans could be put on hold, possibly forever. Taking proactive steps to plan for retirement involves planning for long-term care, sickness, accidents and liability claims. Those ideas should be included automatically as part of an integrated retirement plan.
Did you know?
Retirement should be viewed more as a starting point to the next phase of life than a finish line for the previous part. The modern idea of retirement is very different than for previous generations, and there could still be planning to do. Retirement saving is less about a fixed number and more about having an adequate level of comfort based on a plan that adapts to changes in your life and your world.
About the Author
Senior Portfolio Manager, Arlington Capital Management
Justin J. Kumar embraces a proactive, systematic investment management approach with a customized, proprietary system to help guide his clients toward their financial goals.