If you’re within five years of your target date for leaving your full-time job for good, this is the time to develop a budget for retirement. That way, you won’t be blindsided when you stop bringing home that paycheck.
There are two ways to calculate how much you’ll need during your retirement years.
Estimating Your Budget for Retirement
One approach is to estimate that you will need 70 to 80 percent of your pre-retirement gross income. That’s the rule of thumb many financial advisers use.
This approach focuses on the budget method, since hitting 70 to 80 percent of your gross isn’t necessarily going to work for everyone. “That’s a target, a benchmark,” said Joe Ready, executive vice president, Institutional Retirement and Trust, Wells Fargo Bank. You might be on track to replace your goal of 60 percent of pay based on the income you expect to have in retirement. Or you may realize you aren’t anywhere near the 70 to 80 percent benchmark and don’t believe it’ll be possible.
If you’re not close to being able to retire on 80 percent of your gross pre-retirement income, “back into a simpler, easier lifestyle,” Ready said, “especially if you have no dependents at this point in your life.”
Longevity Expectations Are Important
Before you look at your projected numbers — expenses and income you expect to have in retirement — think in terms of longevity as well.
For an estimate, you can use a life expectancy calculator, such as the one on the Social Security Administration website. Or you can begin by looking at how long your parents lived (or are living) and your own health. “Most people are going to live longer than their parents,” Scott said.
The actuarial table on Social Security’s site estimates that men who are 65 today are expected to live a bit older than 82½ and women to just over 85.
Creating a Detailed Budget for Your Retirement Lifestyle
The second approach to budgeting for retirement is to create a monthly budget. After taking your projected lifespan into consideration, create a budget that shows all your current and expected monthly expenses during the years when you’ll likely have less income than today. Create an initial budget based on what you expect to spend during the first year of retirement. Then, be prepared to adjust it as your retirement lifestyle develops over time.
When preparing your detailed budget, ask yourself: “What expenses will continue to exist and which will go away?” Ready said. “You might find some current expenses will not be there when you retire.”
For example, if you’re considering downsizing your four-bedroom house to a townhouse, your housing expenses are likely to be less. You may also consider moving into an independent retirement living community, which will have set monthly costs and no maintenance fees.
Most major financial companies offer retirement expense worksheets that can help you pencil out your budget. For example, The Vanguard Group has a monthly anticipated retirement expenses worksheet that lets you put in dollar amounts for categories ranging from housing to food to transportation to health, travel, entertainment, and hobbies.
Early Years of Retirement Versus Later Years
Your budget numbers will be based on what you have been spending and how you expect them to change during the first year or two of retirement. Typically, people spend more on travel and leisure activities during the initial retirement years. Later, they’re likely to spend more on health.
Everyone’s situation is different, so this is the time to reflect on how you expect to spend money as you move into retirement. Will your income in retirement be able to support that lifestyle? If not, look at each category to evaluate where you may be able to trim your expenses.
Perhaps you can find a less expensive cell phone plan or a more moderately priced combination phone/Wi-Fi/cable bundle, for instance. Maybe you can reduce the number of times you dine out each week.
When to Claim Social Security
If you are able, avoid taking your Social Security benefit at as soon as you reach 62 years old—the earliest age you’re allowed to do so. By delaying your start date, you’ll increase the size of your benefit.
Set up a MySocialSecurity account at the Social Security site and you’ll get an estimate of how much you would receive by claiming benefits at 62, 66, and 70. If you were born between 1943 and 1954, for example, and begin claiming at 62, you’ll receive 75 percent of what you would receive monthly if you waited until 66.
One way to postpone Social Security to bolster your retirement income is with self-employment income from an entrepreneurial pursuit you develop before you retire. Another, if your employer is receptive, is to keep working at your job but cut back the number of hours so you don’t face income loss all at once.
How Much to Withdraw From Your Savings
Finally, when calculating your assets during retirement, think about how much you could comfortably withdraw — or spend down — each year. For years, financial advisers recommended withdrawing 4 percent a year. But many have changed their minds recently, given current low interest rates on bonds and CDs.
Wade D. Pfau, professor of retirement income at the American College of Financial Services, says these days, the 4 percent rule “cannot be treated as a safe initial withdrawal rate.” Instead, you need to take into consideration interest rates, the volatility of your investments and your total resources when considering how much is safe to spend down annually.
See all of our tips for preparing for retirement and planning for your future on our blog.
By Harriet Edleson for Next Avenue.
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