Your Retirement Income Goal
How to Determine Your Retirement Income Goal
One of the most critical assumptions needed in order to accurately calculate your retirement financials is simply how much income will you need in retirement. As with many financial calculations, there is a quick way to figure this that will get you close, and a more extensive way that will get you really close. Obviously the more extensive approach will require more time and energy to calculate, but will also provide you a greater degree of confidence and peace of mind.
The Quick and Close Method
For those who prefer a quick method, you can simply use a percentage of current income. If you would like your lifestyle at retirement to be roughly equal to your pre-retirement lifestyle, use 90%-100% of your pre-retirement income. If you think you will have certain debts paid off and have generally lower expenses in retirement, you can use 70%-80% of your pre-retirement income, If you would like to travel more and want a higher lifestyle after retiring, use 110%-120% of your pre-retirement income.
The More Precise Method
A more accurate method of determining the amount of retirement income you will need is to really examine your current monthly cash flow, with adjustments to subtract those expenses that will no longer be applicable when you retire and add an allowance for new expenses anticipated at retirement. For this approach, you will want to start with your basic monthly cash flow expense (click here for more information) and closely examine your fixed expenses, including your debt service, amount of monthly savings for specific goals, periodic and recurring expenses, and then examine your discretionary and necessary variable expenses.
When looking at expenses that might go away at retirement, many people will pay off their mortgage, eliminate expenses associated with their work, or stop paying for a child’s college education. Expenses that might be new in retirement could include additional travel or health care costs, taking up a new hobby or going back to school themselves.
One area that many people fail to accurately account for is their transportation needs. While many will think they can eliminate a car payment because they anticipate paying off a current car loan, they fail to recognize that those vehicles will eventually need to be replaced. So even though the current loan may be paid off, many financial planners recommend including a “monthly transportation expense” that is roughly equal to your monthly car payment into your monthly budget to account for ongoing transportation needs.
How to Account for Health Care Costs
Health care costs are one of the fastest growing and most concerning expenses to many retirees, but when you are young and healthy, how do you plan for those costs? As with the more precise method, tracking your current monthly health care costs and inflating those at the current rate of health care inflation (currently 6-8% annually) is a good start. If your current monthly costs are very low, you may consider allocating an amount equal to your monthly health care deductible, or simply bumping your monthly retirement income goal by a few hundred dollars each month to cover health care. Regardless of which method you use, you need to plan on and include some amount for health care in your retirement income goal.
While the “percent of gross income” rule of thumb will provide a reasonable estimate of the income you will need at retirement, planning your income around your current spending and specifically accounting for anticipated changes will provide a basis for making future spending decisions. For example, if you have accounted for $10,000 a year in travel expense, how you spend that money – whether it be a series of short weekend getaways or one long extravagant vacation - you’ll know what you can do and be able to make those decisions with confidence knowing that you are not overspending in one area at the expense of another.
Where to Invest Now
Human Capital vs. Financial Capital
It’s been said the financial markets don’t like uncertainty. But one thing that is certain is that with the market declines of the past decade or so many people have seen their planned retirement dates pushed further and further into the future...