Perhaps the ultimate financial planning question is “When can I retire?”. The answer is different for every couple or individual based on their personal lifestyle expenses and income sources.
We have three learning objectives for this post:
- To learn how to analyze your personal situation for retirement considerations
- To understand the role Social Security and pension income play in your retirement decision
- To be able to grasp the idea of generating lifetime retirement income from your investment assets
Transitioning from your working years into retirement can be done all at once or perhaps phased over time. A lot of things change when this occurs. First, we lose the income we were used to from our employment. At some point claiming Social Security will replace part of this income and if you earned a pension while working it will start at the time you retire.
But other factors change as well. For example, when we are working we are generally saving for retirement. If you are socking away 10% of your salary in 401K contributions and other investments, it represents an expense which takes income away from what you can spend. When you retire, that expense goes away and you start to use your accumulated assets to produce retirement income. In short, it is not unusual for expenses to decline a bit when you retire. Of course, your lifestyle expectations such as travel and hobbies could eat into some of those reduced expenses.
In fact, a study using data from the Bureau of Labor Statistics Consumer Expenditure Survey revealed that the average U.S. household spends about $15,000 less in retirement. On average this was a drop of about 25%, but it can vary widely across the income spectrum.
The other major factor to consider when deciding when to retire is how long you expect to be retired. Lifespan is hard to predict, but personal and family health history can be a guide to an assumption. The longer you will rely on your investments to provide income, the more stress that is placed on the income plan. Retiring early may be a goal but consider the potential for a long life in the analysis before planning that retirement party.
There is sophisticated retirement income planning software available to help quantify an estimate of how long your assets would last considering your retirement lifestyle expenses, the rate of inflation and factoring in known income sources such as Social Security and pensions.
Speaking of Social Security, almost all Americans end up with a Social Security benefit based on their earnings record, or possibly a disability. Social Security can generally be claimed as early as age 62, but claiming before full retirement age results in reduction in benefits of up to 25%. For those born between 1954 and 1960, full retirement age is 66 years and some number of months depending on the year of your birth. Those born in 1960 or later can claim their full benefit at age 67. Of course, for many it is worth considering waiting even longer to earn delayed retirement credits, which boost your benefits by as much as 30%. Considering spending a little more of your own money early in retirement to capture a larger Social Security benefit, which is inflation protected, often makes sense.
Pension benefits are often earned by those who worked for large corporations a while back when those plans were popular. Today, traditional pensions are usually only found at state or federal government agencies for workers that complete long-term service.
When determining when to retire, it becomes as much a question of comparing your known incomes sources from Social Security, pension, and perhaps other places like rental real estate to your desired amount of spendable income to support your retirement lifestyle. Absent a strong pension income, we’re probably talking about Social Security here. Let’s say a married couple has $50,000 annually in Social Security benefits, but has a lifestyle goal of spending $80,000 per year on needs and wants. The $30,000 “gap” needs to be filled by either income and profits from your investment assets, or possible a combination of investment income and some income earned from part-time work, perhaps a second career doing something you enjoy that provides fulfillment.
How much in assets do you need in investment capital to provide $30,000 of income and have it last a typical 30-year retirement? There are many variables that factor into the calculation including investment returns, the rate of inflation, and your goal for leaving remainder assets to your heirs one day. But, a good place to start is the 4% rule. Studies of diversified portfolios of stocks, bonds, real estate, etc. have shown that spending 4% of the value of your investment assets and adjusting for inflation each year would survive a 30-year retirement period, even under the worst conditions the financial markets have thrown our way over the last 90 years.
4% is considered the “safe withdrawal rate” for this reason and it is a good place to start determining if you have accumulated enough assets to consider retiring. Back to our example, if we divide $30,000 of needed income by 4% we find that an investment plan with $750,000 should be sufficient. $750,000 times 4% = $30,000.
In most time periods tested the actual safe withdrawal rate was closer to the 6% range, but there were some periods where that withdrawal rate failed, meaning the retiree would have run out of money before 30 years. With people commonly living into their 90s, we believe being conservative in planning for retirement income is wise. Here at Integra Capital Advisors we use a software program that takes all the important factors into account and determines how much in assets is needed to retire for each individual situation. Call (941) 778-1900 or visit www.integracapitaladvisors.com today to set a time to talk about your retirement income plan.