Retirement Planning: Mastering the Transition
For most of your life, retirement was an aspirational goal that was decades away.
Then one day, you started to think differently about retirement. Now it wasn’t some distant goal – It was a major upcoming life event that would require a plan.
The good news is that the most challenging part of retirement has already been achieved.
How could that be?
Well, the hardest part was the decades of saving for retirement. Now you just need a plan to maximize the use of your savings over time!
But before jumping headfirst into the financial side of retirement, let’s put “retirement” in the proper perspective.
For the last 30 or 40 years, you invested much of your time and energy toward your career. And for many, a career is not simply a means to earn a living but a part of who you are, what you think about, and who you spend your time with. With your working years representing such an important part of your life, perhaps the most important question to answer is what you want from this new chapter in your life.
When you think about your retirement, what do you envision?
Rest, relaxation, and travel after years of never-ending work commitments
Catching up on lost time with family and friends.
Volunteering your time or professional expertise to charitable causes you care about
Or maybe you aren’t all that interested in giving up the work that you do. You would just prefer to work a little less, or perhaps even pursue a new career opportunity or business idea that you never had time to focus on.
The reality is that there isn’t just one way to retire. Everyone finds happiness and fulfillment in uniquely personal ways and retirement is no different.
Where Do You Start?
As you start to think about retirement, you probably have a few questions that require some answers….
When can I retire?
How much can I spend?
“What if” this happens?
Am I ready to do this?
If you are thinking about these questions, you are not alone… a modern-day retirement can be complicated and it isn’t always easy to visualize. After all, how do you turn an investment account into 30 years of income?
So how do you get this process started? Well, you might assume that you will need well-defined goals and organized financial records before you start your retirement planning; however, we can assure you that is NOT the case. The reality is that you will organize your finances and develop a series of achievable goals as part of your retirement planning. Are you ready to get started?
Developing Your Plan
The starting point of any plan involves understanding how future variables and certain decisions might impact your results. The good news is that you can analyze virtually any retirement scenario with the right planning inputs.
Inputs Affecting the Bottom Line
Your Sources of Income in Retirement – Understanding your sources of fixed retirement income such as Social Security, pension payments or annuity income is a critical first step in your planning.
Your Current Level of Retirement Savings – Perhaps your retirement savings is held within a tax-deferred IRA or 401(k) plan, a tax-free Roth IRA, or a regular taxable brokerage account. To build your projection, you will want to take an inventory of each type of account that you own and include your most recent account balances.
Inflation, Life Expectancy, & Investment Assumptions – While you can identify your retirement income sources and current level of savings, there are certain planning variables that are simply unknown. For instance, no one knows what the future inflation will be, how long you will live, or what you will earn on your investments.
As it relates to these uncertain variables, it is important to make well-reasoned assumptions as each variable will have a major impact on your planning results. For instance, the rate of future inflation will impact your cost of living over time while your life expectancy will impact the number of years that need to be funded.
As for investment returns, the assumed rate of return that you believe you can earn will impact how your savings will keep pace with inflation and what you can spend.
Once these key inputs are identified, you can begin modeling your retirement finances to answer two critical planning questions…
What can I spend each year based on reasonable planning assumptions?
And how much of my savings will be left based on different levels of spending?
Your Annual Spending Level
In retirement, you will have certain necessary expenses such as housing-related costs, your medical insurance, car-related expenses, food and clothing costs, etc. Certain academic studies can serve as a valuable guide to understanding how these retirement expenses might change over time.
However, once these necessary expenses are accounted for, most other expenses tend to be more discretionary in nature. Common discretionary expenses in retirement relate to travel, recreational activities, dining out, maintaining a vacation home, etc.
In other words, your discretionary expenses tend to involve many of the fun and exciting parts of your retirement budget. And of course, learning what you can spend in these areas will be an exciting part of the retirement planning process.
Your Residual Savings
This is the remaining savings that will exist in the later years of retirement and it is directly impacted by the level of annual spending that you choose. For instance, if you decide to spend $10,000 each month in retirement vs. $12,000, you will have a higher level of residual savings.
Maintaining a higher level of residual savings can be an important priority for clients who want more financial flexibility later in life as well as those clients who want to leave significant wealth to their heirs or charitable interests.
As you can see in the matrix below, finding the right balance between maximizing your spending and maintaining your residual savings is significantly impacted by the inflation, investment, and life expectancy assumptions that you use.
While analyzing many different retirement scenarios provides you with the very best opportunity to identify a sustainable level of spending, many retirees overlook this key planning step. In fact, according to the 2023 Retirement Confidence Survey, only half of U.S. workers have actually calculated how much money they will need in retirement.
By focusing on how different planning assumptions will impact your spending and savings over time, you can avoid spending too much while also ensuring that you do not spend too little based on a misplaced fear of running out of money.
Understanding What is Possible
As you develop your retirement plan, you will begin to have greater clarity on what is possible and reasonably achievable based on your unique needs and financial resources.
By understanding what is reasonably achievable, it allows you to narrow your focus on those decisions that have the greatest impact on your plan. For many “pre-retirees”, these decisions might include:
Should I retire next year or work another few years?
Do I want a high risk or low risk investment portfolio?
Should I elect the single life or joint life payout on my pension?
Do I take Social Security at Age 67 or Age 70?
Should I buy a vacation house or use those funds to travel more?
Is it OK to gift money to my kids to buy a home or start a business?
As you begin to gain greater clarity on these key considerations, you will start to view retirement, not as an uncertain undertaking, but as a more clearly defined vision.
Defining The Details
As you begin to develop your retirement plan, you should do so knowing that your plan will be continuously adjusted and improved over time. Therefore, the most recent version of your retirement plan does not need to be perfect, but it should reflect the most sensible path forward based on the information you currently have.
Smart Retirement Plan 1.0
In the years leading up to your actual retirement, you will want to develop a detailed retirement plan.
Here are the key items that should be included in any retirement plan:
Your Key Planning Assumptions: Record your planning assumptions on inflation, life expectancy, tax rates, and investment returns to ensure they remain reasonable over time.
Your Initial Retirement Spending Plan: Document a detailed plan to fund your targeted level of retirement spending on a year-to-year basis.
A List of Key Action Items: List all the key action items to ensure that no current or future detail is overlooked. Life can get busy and you don’t want to forget any key planning step or an upcoming decision or deadline.
A Summary of Risks and Uncertainties: Summarize the risks and planning uncertainties that need to be monitored. Include your plan for managing these risks over time.
With Smart Retirement Plan 1.0 in hand, you will be in a solid position to start transitioning into retirement with confidence.
Managing Your Plan
While building your plan is an important step, the reality is that every retirement plan still needs to be implemented, monitored, and adjusted over time.
As you manage your retirement plan, you will want to focus on a few key areas.
Addressing Key Action Items:
In retirement, there are many tax and investment activities that need to be addressed over time. Some of these action items might be recurring tasks while other action items might be triggered by unpredictable future events.
Recurring Tasks
Tasks such as preparing your annual tax return, making estimated tax payments, withdrawing required IRA distributions, and monitoring your investments are all examples of action items that occur on an ongoing basis throughout your retirement.
Event-Driven Action Items
In addition to these recurring tasks, your retirement will also involve many event-driven action items that can be triggered by an important date or the occurrence of an unpredictable future event.
Applying for Medicare, filing for Social Security, and starting your required IRA distributions are all examples of action items that are triggered as you approach certain important dates. Keeping track of these key dates will help you to avoid unnecessary penalties or the loss of valuable benefits that you have earned.
Other event-driven action items include those that are triggered by the occurrence of unpredictable future events. Examples might include a major market downturn triggering a review of your investments or a tax code change triggering a shift in your retirement tax strategies.
Ultimately, the most critical part of any successful retirement plan is the ongoing management of these wide-ranging tax and investment activities.
Monitoring Progress & Making Timely Adjustments:
Throughout your retirement, you will want to monitor the progress of your plan to ensure that it remains on track. As you monitor your plan, it is important to remember that short-term investment results and unexpected expenses can often make your plan look a bit better or perhaps a bit worse than your initial projection. The key here is to distinguish between minor bumps in the road that do not require action and more significant deviations that may require you to make some changes.
For instance, one year of elevated expenses due to some unexpected medical bills and house repairs is unlikely to complicate the long-term health of your plan; however, several years of elevated spending coupled with an unexpected market downturn may warrant some adjustments to your spending plan to ensure you stay on track.
Why Adjustments Are Necessary
It is important to recognize that your retirement will extend over the next 20, 30, or even 40 years. This means that you are likely to experience periods of economic growth as well as market downturns, tax code changes, and new developments in your own life.
Unfortunately, as you build your retirement plan, you never know exactly how the next 20 or 30 years will unfold. This means that you will need to rely on a series of well-reasoned assumptions on everything from future inflation rates and investment returns to your life expectancy and future cost of medical care.
However, in today’s fast changing world, it is important to appreciate that the assumptions you make today need to be monitored and adjusted over time. By proactively monitoring your plan and making adjustments when new information and details emerge, you will put yourself in the very best position to capitalize on opportunities and address new evolving risks.
Where do you go from here?
Today’s retirees are healthier and wealthier than past generations. This reality opens the door to many exciting opportunities that were simply out of reach for your parents or grandparents.
However, let's not kid ourselves, retiring in today’s world is no stroll in the park. While longer life spans, higher income levels and greater wealth are undoubtedly positive, these considerations also create greater financial complexity for a modern-day retiree. This means that crafting a smart retirement plan to maximize your health, lifestyle, and finances is more important than ever before.
With these considerations in mind, the first retirement planning question to consider is whether you want to self-direct your retirement finances or whether you might feel more comfortable working with a qualified advisor who can assist you along the way.