Many people picture retirement as endless days of golfing and fishing, but that’s not necessarily a realistic view. Retirement lifestyles come in many forms, largely depending on the personality of the retiree. Are you a homebody who’s happiest spending endless time woodworking in your basement workshop, or are you a jet-setter who flies first class to exotic destinations around the world? Clearly, one of those retirees will spend a lot more money on retirement activities!
If the jet-setter has enough put away and a well-structured financial plan, it’s possible they’ll be able to maintain that lifestyle for as long as they want or are physically able. On the other hand, if they don’t have enough, and keep spending as they did when they were working, they could run out of money long before their retirement ends.
As I said in Part 1 of my retirement series, the clients I worry most about are the high-earners with relatively little saved for retirement. Those people are used to spending lots of money, and if they continue that habit in retirement, they could find themselves having to re-enter the workforce within a few years!
Start Planning Early
That’s why it’s vitally important to consider your retirement lifestyle long before you actually retire. At the forefront of your thinking should be the idea that you will have to get used to being on a fixed budget. Retirement funds generally don’t include raises the way salaries do. You will probably not be making more in year 5 of retirement than you make in year 1. This means your money must last, sometimes for 30 years or more, all while weathering the impact of financial factors like inflation, economic volatility and the rising cost of necessary expenses.
A good practice is to, well, practice! Before you retire, determine what your monthly income stream will look like in retirement and then live on that amount while you’re still working. This practice is really a test; can you live within the budget you set for retirement, or do you find yourself “cheating” by spending more than budgeted?
If your expenses outweigh your projected retirement income, that’s a sign you need to rethink your retirement plan. You either need to create higher cashflow in retirement or come to grips with the idea that your pre-retirement lifestyle must be curtailed in retirement.
That last notion is harder than you might think! You’re naturally limited in your spending during your working years because of your paychecks. You don’t get 30 years’ worth of income the first day on the job. Rather, your income is rationed by recurring paychecks. You can’t spend the money you’ll make next year because you don’t have it yet.
Retirement is different - no one is rationing the funds you withdraw, which means it’s all too easy to withdraw too much and set yourself up for retirement failure. Assuming you find you can live on a fixed budget, it’s time to start thinking about flexibility in that framework. Retirement spending doesn’t often remain constant throughout retirement. Commonly, it’s higher in the earlier and later years, and lower in the middle.
Early retirement is typically the time to check off those bucket list items. Traveling and other physically-demanding activities are best done earlier in retirement. As you age and your ability to do physical activity declines, activities like travel will become more difficult and less enjoyable. A prime goal for a successful retirement is that you do not reach the end wishing you’d done more when you were able.
Later in retirement as you age, your health inevitably declines, which means you spend more on medical expenses. Planning properly for this can result in your out-of-pocket medical expenses remaining steady even as those healthcare bills increase.
That leaves the middle years of retirement as, frequently, the least expensive part. You’re no longer traveling or doing other expensive activities, but you haven’t yet started racking up those higher healthcare costs. All that raises the question: How do I approach budgeting in retirement so I don’t run out of money, but also have the flexibility to spend more in the early and later years?
This is where cashflow modeling comes in. At Asset Preservation Wealth & Tax, we have a special system called eMoney Advisor. It allows us to run cashflow analyses of various retirement spending plans, and it calculates the probability of each plan’s success. It’s a great way to highlight flaws in a client’s concept of retirement spending.
Some clients will assume that because they have $2 million saved for retirement, they’re guaranteed to not run out of money. That might be true if they keep their expenses down, but what if they spend an average of half a million dollars every year? Their retirement funds are unlikely to last!
Clearly, thinking about funding your retirement lifestyle is complicated. There are many moving variables along with quite a few unknowns; after all, no one knows how long their retirement will last. That’s why it’s important to start thinking about your retirement lifestyle as early as possible. Ideally, you should be considering retirement on the first day of your first job!
The earlier you start thinking about retirement, the sooner you can start to plan for anticipated expenses and shore up your savings to meet them without sacrificing your retirement lifestyle.
Being broke as a senior citizen is no fun! But a retirement filled with endless days of frugality due to fear of running out of money isn’t much fun either. By thoroughly planning your retirement you can avoid both unpleasant extremes. It’s important for you to work with an experienced financial advisor who can help you set, and meet, your retirement lifestyle goals.
Stewart Willis is the founder and president of Asset Preservation Wealth & Tax, a financial planning firm in Phoenix, Arizona. Investment advisory services offered through Foundations Investment Advisors, LLC, an SEC registered investment adviser.
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