Retirement planning can be challenging as you are saving for a time in the future based on your current lifestyle expenses. To do so, you have to take into account the rising inflation, future healthcare expenses, and set aside money for any future endeavors such as starting a business or traveling around the world. Needless to say, it can be tricky to measure the extent of your expenses in retirement. Moreover, the kind of lifestyle you live today may very well undergo a transformation over the course of time and so will your income and expenditure. This may result in insufficient retirement savings forcing you to live frugally, having to count every penny that you may have. You may however reach out to a professional financial advisor who can advise you on how to build a customized retirement plan that takes into account your future goals, risk tolerance and can be modified with advancing age. You can however determine your future retirement needs.
Let us discuss seven ways by which you can assess your retirement expenses:
1. Evaluate your current expenses to gauge your future retirement expenses:
If you stick to your current lifestyle, you can have a fair idea about your future expenses barring any financial or health emergencies that you may encounter in the future. Your non-discretionary expenses such as rent, utilities, food, clothing, etc. may remain the same and act as a benchmark to estimate your future expenses when you are nearing retirement. Make a budget of your estimated monthly expenses. Also, do not forget to factor in any ongoing insurance premiums, loan repayments, or contributions that you are making to retirement accounts. By the time you retire, you most likely will not be making these payments however do account for them. This will act as an extra financial cushion for any unforeseen expenses such as healthcare costs, long term care costs, travel expenses, etc. that you may incur in the future during your retirement years.
2. Factor in your tax liability and investments when saving for retirement:
Once you reach retirement, it does not mean that your taxes magically disappear. You are still liable to pay taxes on the investments and savings that you may have accrued over the years. However, there are certain ways you can deploy to minimize your tax liability. If you have invested in a Roth IRA account, you can make tax-free withdrawals in retirement provided you have held the account for at least five years and are of 59.5 years of age or above. On the other hand, if you have invested in a traditional 401(k) account, your withdrawals will be taxed as per the prevailing tax rate wherein your withdrawals in retirement will be added to your annual income. Based on the sum of your yearly income and withdrawals, you will be placed in the corresponding income tax slab for the relevant financial year. Since the majority of people start contributing to retirement accounts at a much younger age, you can predict your tax expenses that you will accrue in retirement. Doing so would allow you to select an instrument for saving based on your future saving goals and targets. The more you save on taxes, the higher your savings in retirement.
3. Make a list of all your income sources to estimate your living expenses in retirement:
There are several sources of income that you can set up to live comfortably in retirement such as your savings, investment returns, rental income, inheritances, Social Security benefits, etc. These make up your total income in retirement. Once you have this number, you can find out how much money you should ideally be spending in retirement. The most popular suggestion given by financial experts is to follow the 4% rule. As per this rule, you can take out 4% of your funds from your retirement savings every year. However, you need to factor inflation into your plan as the spending power of the dollar may decrease with a rise in inflation in the future.
4. Take into account inflation when estimating the cost of living in your retirement expenses:
As mentioned above, you need to factor inflation in your budget so as to correctly estimate how much money you will need to live comfortably in retirement. It can be tricky trying to figure out the exact percentage of inflation over the years. But there is a workaround to this problem. Look at the data over the past ten or more years to identify the prevailing rate of inflation during the said years. This can be helpful when it comes to figuring out the future rate of inflation. Even though this is not an exact science, it can still prove to be beneficial in identifying how much a commodity will cost in the future enabling you to save accordingly for your retirement years.
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5. Factor in your family needs and future expenses:
If you are the breadwinner in your family or have a number of dependents that you have to look after, you may have to save extra for them. This includes saving for the college tuition of your children, travel expenses, etc. Covering healthcare costs of a physically or mentally disabled child can also be a significant expense. Moreover, if your parents or siblings stay with you, you have to take care of their healthcare or long term care costs too. All of the aforesaid expenses need to be accounted for when you plan for retirement.
6. Create an emergency fund:
An emergency fund provides a safety net not only during your working years but also during retirement. Typically, it is advised that the fund should have enough money to cover three to six months of living expenses. The fund can be used to tackle any unforeseen expenses such as health emergencies, home renovation or repairs, loss of job, etc. An emergency fund can offer you peace of mind safe in the knowledge that you have enough funds tucked away to keep you afloat in times of financial distress. Do not neglect to account for an emergency fund when you are making an assessment of your retirement expenses.
7. Calculate your retirement expenses with the help of an online retirement calculator:
You can make use of online tools such as a retirement calculator to estimate your future retirement expenses. The tool can help you identify how much money you need to retire, how retirement can affect your monthly living expenses, and whether your current retirement savings are adequate to retire or not. These online calculators offer an estimate based on information provided by you giving you an approximate sum of retirement expenses that you will be spending during retirement.
To summarize
It is essential that you find out how much funds you will have for your retirement to ensure that you do not run out of funds later. Having an estimation of your funds not only offers you peace of mind but also allows you to make an adjustment should your priorities or future goals undergo a revision with your changing life situation. It is no secret that it becomes harder to earn money as you grow older. Thus, you need to consider all future possibilities that may occur.
You can either use an online retirement calculator to figure out your probable future expenses by making a list, or enlist the services of a professional financial advisor to design a suitable retirement planning strategy to ensure you live your golden years comfortably. Use the free advisor match service to search for fiduciary advisors near you. Answer a few simple questions about yourself and the match tool will help connect you to 1-3 financial advisors based on your financial requirements.