The future is an uncertain thing, and planning for uncertainty inevitably involves making some assumptions.
Here are six that, done improperly, can wreck your retirement.
How Long You’ll Live
The good news we are living longer – but that means that retirements can last longer, and medical costs can run higher. But while we’re living longer, studies indicate that we tend to underestimate how much longer we will live.
The Social Security Administration notes that a man reaching age 65 today can expect to live, on average, until age 84.3, a woman turning age 65 today can expect to live, on average, until age 86.6.
But those are just averages. About one out of every four 65-year-olds today will live past age 90, and 1 out of 10 will live past age 95.
How Long You’ll Work
Perhaps the most important assumption is when you plan to quit working; today most Americans are doing so at 62, though 65 seems to be the most common assumption – and while using 70 (or later) will surely boost your projected outcomes (it both gives you more time to save, and reduces the time that you will be drawing down those savings), it may not be realistic for many individuals.
Indeed, the 2016 Retirement Confidence Survey from the nonpartisan Employee Benefit Research Institute (EBRI) notes that the age at which workers expect to retire has been slowly rising. In 1991, just 11% of workers expected to retire after age 65. Twenty-five years later, in 2016, that number had more than tripled; 37% of workers now report that they expect to retire after age 65, and 6% say they don’t plan to retire at all. At the same time, the percentage of workers who say they expect to retire before age 65 has dropped by half, from 50% in 1991 to 24% in 2016.
However, the RCS has consistently found that a large percentage of retirees leave the workforce earlier than planned – nearly half (46%) in 2016, in fact. Many who retired earlier than planned say they did so because of a hardship, such as a health problem or disability (55%), or changes at their employer such as downsizing or closure.
The bottom line: Even if you plan to work longer, the timing of your “retirement” may not be your choice.
How Fast You’ll Withdraw
For years, financial planners had touted the 4% “rule,” a rule of thumb for how much money can be withdrawn from retirement savings every year (generally adjusted for inflation) without running out of money. There’s no real magic to the 4% rule, of course – it’s just the math that allows for a systematic withdrawal of funds roughly timed to coincide with the expected lifespan of the individual. Portfolio returns can impact this, of course, so much so that that factor, coupled with the increased longevity, has these days led some to call instead for a 3% rule.
But whatever formula you use, it’s important to remember that while a low rate of withdrawals might help preserve your portfolio, it might not produce a very comfortable living.
How Much You’ll Earn on What You Save
Let’s face it – if you could predict future market returns, you probably wouldn’t have to be worrying about retirement. But as we all know – and have seen proven time and again over the past couple of decades, markets frequently defy even the expectations of experts.
There are bad investments that can cost you money, and good investments that can help your account grow faster.
So, what should a non-expert assume? It’s generally best to be conservative – one of the biggest mistakes individuals make is assuming outsized returns on their savings. But make sure that assumption is consistent with how your savings is invested. For example, if you have all your savings invested in a money market fund, it’s highly unlikely (some would say impossible in the current environment) for you to actually get an 8% return.
How Much More Things Will Cost
Twenty or 30 years from now, prices are likely to change, and for many, those prices will increase. Consider that, overall, the average inflation rate for 2016 was 1.3%. In 2015, inflation climbed 0.7% with an average running pace of 0.1%, with gasoline prices plunging that year. It’s not that all prices will always go up – but they often do, and might increase faster than your income.
There’s a calculator that you might find interesting at http://www.usinflationcalculator.com/.
How Much Differently You’ll Spend
This has two components. Some costs (notably medical) frequently increase in retirement, particularly with the longevity trends noted above. Others – such as commuting costs, and even the “cost” of saving – decrease.
But think – 10 years ago would a “fit bit” have even been on your radar, much less your arm? New products and services continue to emerge – some will make your retirement budget more manageable – others may well strain it.
With all the uncertainty and variables to consider – there is one key assumption about retirement saving that you can, to some extent, control – and that’s “How Much You’ll Save.” Because what really matters in achieving financial security for retirement is how much you save (including the amount of the employer match, if any), and some help in making solid, reality-based assumptions.
Chances are, your 401(k) plan has some resources that will help you do the calculation. If not, or if you’d like a “second opinion,” try the free Ballpark E$timate at choosetosave.org. Even better, if you don’t know what you’re doing, get help – and if there’s a professional advisor working with your 401(k) plan, that’s a great place to start.