Contents
Should You Retire?
Can You Afford to Retire?
Retirement Money Management
Retirement Health Insurance
Life Insurance and Retirement
Housing and Retirement
Retirement and Your Social Life
Mental Activity and Retirement
Travel During Retirement
Working During Retirement
Retirement Health
Learn more with these titles from Barnes & Noble
|
 |
 |
 |
|
Can You Afford to Retire?
Once you’ve decided that you want to retire, next you’ll need to consider whether you can afford to do it.
How Much Money Do You Need in Order to Retire?
Most retirement planners suggest that your income in retirement should be about 80% of your working income. So, for instance, if you’re currently living on $100,000 a year, your post-retirement income should probably be about $80,000 a year. Planners assume that retirees will need less income in retirement than during their working lives because most retirees have paid off their mortgage, no longer support their children, have no work-related expenses (such as commuting costs), and will likely move into a lower tax bracket.
Though the 80% rule works well for the majority of retirees, it’s not perfect for all retirees. Retirement budgets can vary depending on the lifestyle you desire, the cost of living in your region, and your health and associated medical costs.
How to Calculate Your Retirement Expenses
The best way to determine how much income you’ll need during retirement is to calculate your expected annual expenses during retirement. Factor in each of the following costs:
- Monthly bills: These include heat, electricity, internet, telephone service, cable TV, car payments, insurance payments, and any other monthly expenses you expect to incur during retirement. If you’ll still be paying off a mortgage after you retire, that should also be included in your monthly expenses—though if you’ll finish paying off the mortgage during retirement, factor in that lower expense down the line.
- Cost of living: These are everyday life expenses in your area, such as groceries and toiletries. If you plan to retire to a location other than where you live now, your cost of living expenses could be significantly higher or lower. Do some research about the cost of living in any location to which you’re considering moving.
- Medical expenses: As you age, your medical spending will rise. Medicare and insurance cover some of these expenses, but you should still plan for rising medical expenses during retirement (for more details, see Retirement Health Insurance).
- Travel: Travel costs can play a huge role in retirement budgets. If you have visions of spending your golden years flying around the world or visiting exotic locations, budget a significant sum of money for travel.
- Activities and entertainment: Ideally you’ll want to spend much of your retirement doing activities that you enjoy, such as dining out with friends, going to museums, shows, movies, and sporting events, or taking classes.
- Capital expenditures: These include large one-time costs such as getting a new car, home repairs, or replacing a major appliance.
- Other costs: Add in any other costs that don’t fit into the above categories, such as paying for education if you still have a child in school, or the cost of taking care of your parents if you expect to be providing them with financial support.
- Taxes: Remember to factor in any property taxes you have to pay. Also, don’t forget that any income you make during retirement will be taxed, even though you may be in a lower tax bracket than you occupied when you were working.
Factoring in Inflation
Inflation is an economic phenomenon in which the price of goods rises over time. Historically, inflation in the U.S. causes prices to rise an average of 3–4% a year. Though this may sound like a small amount, the reality can be shocking. The table below shows the effects of a 4% annual rise in inflation on $50,000 worth of expenses. In other words, it shows how much money you would need in the future to buy what you could get with $50,000 today.
Year |
Expenses |
Year |
Expenses |
|||||
1 |
$50,000 |
11 |
$74,012 |
|||||
2 |
$52,000 |
12 |
$76,973 |
|||||
3 |
$54,080 |
13 |
$80,052 |
|||||
4 |
$56,243 |
14 |
$83,254 |
|||||
5 |
$58,493 |
15 |
$86,584 |
|||||
6 |
$60,833 |
16 |
$90,047 |
|||||
7 |
$63,266 |
17 |
$93,649 |
|||||
8 |
$65,797 |
18 |
$97,395 |
|||||
9 |
$68,428 |
19 |
$101,291 |
|||||
10 |
$71,166 |
20 |
$105,342 |
Over 20 years, an average annual inflation rate of 4% would cause your expenses to more than double. When you’re earning a salary, you may not be overly affected by these increases because you’re likely to get regular raises that match or exceed the inflation rate. When you’re retired and relying on pensions or interest from investments, your income level may not rise as quickly as inflation. Your retirement savings therefore must be sizable enough to cover your expenses, not just in your first year of retirement, but also 20 years down the line.
The Five Main Sources of Retirement Money
Before you can calculate whether you have enough money to retire and maintain the lifestyle you desire, you first need to understand the five main sources of retirement money:
- Retirement investments
- Taxable investments and income
- Pensions
- Social Security
- Other income
Retirement Investments
Retirement investments include any money you have invested in 401(k), IRA, SEP-IRA, SIMPLE-IRA, and Roth IRA plans. These retirement plans feature tax benefits that can boost the growth of investments held in these accounts:
- 401(k), IRA, SEP-IRA, and SIMPLE-IRA plans: Allow you to invest pretax dollars—you won’t be taxed on the money you invest until you withdraw it. If you make $50,000 and put $5,000 into one of these types of retirement accounts, your taxable income will be reduced to $45,000. The money in the account grows tax-free but is taxed when you withdraw it after retirement. Make sure to take these taxes into account as part of your expected expenses.
- Roth IRA plans: Allow you to put after-tax dollars into the account—you receive no tax benefits on the money you contribute, but that money grows tax-free and is not taxed upon withdrawal after retirement.
Retirement Account Restrictions
As a tradeoff for the tax advantages they provide, retirement accounts have a number of restrictions that affect when and how you can withdraw money from them. The two most important restrictions that apply to most retirement accounts are the early withdrawal penalty and a required minimum distribution.
- Early withdrawal penalty: Once you’ve put money into a retirement account, you may not remove any money from that account before age 59 1/2. If you do take money from the account before then, you’ll have to pay a penalty of 10% in addition to any taxes owed on investment gains within the account.
- Required minimum distributions (RMDs): Once you reach age 70 1/2, you’re required to withdraw at least a minimum amount from your retirement accounts each year and pay any taxes that are due on investment gains. This rule applies to all retirement plans except Roth IRAs. The amount of the withdrawals varies based on your specific age and retirement plan account balance. After age 70 1/2, you may always withdraw more than your RMD, but you’ll pay a penalty if you withdraw less.
For more on the differences between retirement accounts and guidance on how to save money for retirement, see the Quamut guide to 401(k)s & IRAs, available in Barnes & Noble bookstores and online at www.quamut.com.
Taxable Investments
Taxable investments are investments not held in a retirement account. Taxable investments can include stocks, bonds, mutual funds, ETFs, money market funds, certificates of deposit (CDs), and real estate. Taxable investments work the same way regardless of your age or retirement status. You can make investments in the hope that they’ll increase in value, or you can sell investments to convert them into cash that you can use to fund everyday expenses.
Pensions
In a pension, also called a defined benefit pension, an employer provides its retired employee with a monthly check. The amount of the check usually depends on the employee’s salary at the time of retirement and his or her years of service at the company. The higher the salary and the longer the employee’s tenure at the company, the larger the check.
Pension plans offer workers many benefits. They don’t require employee contributions, may include cost-of-living adjustments (that rise with inflation), and provide a guaranteed income stream. However, pension checks may stop coming if a company faces bankruptcy. Though pension plans are becoming much less common, many corporations and most government employers still offer them.
Choosing a Pension Payout Option
If you receive a pension, you’ll most likely have to decide how you’d like to receive your pension payments. Typically, you’ll be able to choose among the following options:
- Single life pension: The employer pays the worker’s pension until his or her death. This option offers the highest monthly income but pays no benefits to a spouse who outlives the retiree.
- Partial spousal benefit: The retiree receives a lower monthly payment during his or her lifetime than offered by the single life pension. Upon the retiree’s death, the surviving spouse continues to receive a defined percentage of the monthly pension payment.
- 100% spousal benefit: The monthly payment is lowest with this option, but a surviving spouse will receive 100% of that amount for his or her entire lifetime.
The best option depends primarily on whether you‘re married, and if so, whether you expect to outlive your spouse.
Social Security
Social Security is a U.S. government program that provides Americans with some level of income during retirement. In the program, current workers pay a percentage of their income into a general Social Security fund, which in turn funds the retirements of millions of older Americans. When you retire, as long as you’ve worked for about 10 years or more, you become eligible to get back some of what you’ve contributed through monthly payments.
Amount of Social Security Benefits
The amount of your monthly Social Security payment, called a Social Security benefit, depends on two main factors:
- How much money you earned while you worked: The more money you earned, the more you’ll get back through Social Security (up to a maximum amount).
- Your age at retirement: Retirees can start receiving Social Security benefits at the age of 62, but the longer you wait to start receiving benefits, the more money you’ll receive. The differences in payments based on when you retire can be significant. For instance, a person who earned an average of $30,000 a year for 35 years prior to retirement would get monthly benefits of approximately $1,300 if he or she retired at age 62, but would get monthly benefits of about $2,300 if he or she retired at age 70 or older.
When you decide that you’re ready to start receiving Social Security benefits, you can apply online for benefits, or you can call or visit your local Social Security office to start the application process. To calculate a rough estimate of the Social Security benefits that you’re likely to receive based on the date when you plan to retire, use the Social Security Administration’s online calculator at www.ssa.gov/OACT/quickcalc/index.html.
Other Income
Income received from alimony, disability, or other sources also help to make up your total assets for retirement.
Do You Have Enough Money for Retirement?
A rule of thumb in the retirement savings industry states that you should retire with enough money so that you’ll need no more than 4% of your total assets to cover your first year of retirement expenses. For instance, if you calculate that your first year of retirement expenses will total $60,000, you’ll need $1.5 million in assets when you retire, because:
$60,000 ÷ 0.04 = $1,500,000
How to Calculate Your Retirement Assets
It’s relatively easy to add up the value of your assets in retirement accounts and taxable investments, but it’s more difficult to add up the total asset value of your pension, Social Security benefits, and monthly income from sources such as alimony. To take those sources into account when calculating whether you have the assets needed to retire, follow these steps:
- Subtract your Social Security, pension, and any other payments you may receive from your expected expenses in your first year. For instance, if you have expected expenses of $60,000, receive an annual Social Security benefit of $20,000, and don’t receive a pension or any alimony, you would subtract $20,000 from $60,000 to get $40,000.
- Divide that number ($40,000 in this case) by 0.04 to determine the amount of money you need to have in your nest egg of retirement and taxable investments: $40,000 / 0.04 = $1,000,000.
If the assets in your retirement and taxable investment accounts are at least equal to the number you get, you can likely afford to retire. If not, you may want to consider putting off retirement in order to build up your nest egg and, if possible, increase the benefits you expect to get from Social Security and from pensions you may be eligible to receive.
Working with a Financial Planner
This guide provides a general sense of whether you can afford to retire. If you want a more specific assessment, work with a financial advisor or retirement planner.
| Acknowledgments & Disclaimer |
