Do You Have to Change Your Plans for Retirement?

By Doug Morrison



The press is full of articles questioning the ability of Baby Boomers to retire with the lifestyles they expect. Various studies quote statistics indicating that, overall, Boomers have not saved for retirement, and that lack of savings has been exacerbated by recent market losses in 401(k)s and other retirement assets. Many individuals are quoted as saying they will have to work past normal retirement age.

Don't accept what you hear and read about Boomers having to delay their retirement. That may not apply to you. The prudent approach is to thoroughly assess your individual situation and determine the best time to retire.

The preferable time to do an assessment is within two to five years of your desired retirement date. This timeframe allows sufficient time to consider options and adjust plans as necessary.

Pre-retirement planning is a rigorous process in which individuals and couples determine what their retirement would look like financially based on their needs, wants, retirement income and accumulated retirement assets. Because the majority of employers offer defined contribution plans such as 401(k)s instead of pension plans, a key element of pre-retirement planning is evaluating at what age(s) retirement assets might be exhausted. It also includes creating an action plan and timeline to transition from working to retirement.



Determine the Cost

The first step in the pre-planning process is to define a preferred retirement and determine what it will cost. This includes all facets of retirement such as where you will live, what you will do for recreation, whether you will work part-time and so on.

It is really important that you communicate with your partner so that you can agree on a retirement that is acceptable to each of you. This may be an easy task if you have similar likes and dislikes, but it may require negotiation and trade-offs if not. Skipping or half-heartedly executing this essential step has the potential for fostering ill will and might require a reversal of your initial decisions later in retirement.

When retirement will occur within two to five years, it is much more accurate to forecast the cost of retirement using cash flow analysis rather than using a percentage of pre-retirement costs. Start with current expenses and adjust or eliminate them accordingly for retirement. Then add the new expenses that commence in retirement. Value costs in today's dollars and inflate them to estimate what costs will be at the beginning of retirement.



Identify Income

The second step is to identify expected monthly retirement income apart from any income from retirement assets. For many people that will be only their Social Security payment. Use expected retirement age in years and months when determining estimated monthly Social Security payments.

Others may have employer-provided pensions. Estimate annual salaries for each year until expected retirement. Use those amounts to determine pension income. Also, choosing the appropriate survivor option is an important decision not made lightly. A 50% survivor option is not necessarily the best option.



Do the Math

Step three involves determining the role of retirement assets in funding retirement. If expected expenses exceed income, then the difference must be made up with income and/or principal from assets allotted to funding retirement. It is vital to estimate how long retirement assets can fund deficits before they are exhausted.

A spreadsheet program works well for performing these calculations, should you choose to do them yourself. Compound interest functions can be used to inflate expenses, calculate annual income with cost of living increases and generate net after-tax growth of retirement assets.

One approach is to use a row for each year. In that row, subtract expenses from income. When the difference is negative, reduce that year's total retirement assets by that amount. When it is positive, add the difference to total assets. After adjustment to assets, calculate next year's value using your assumed growth rate. Repeat this calculation for additional years.



Keep an Eye on the Score

Note the year when assets are exhausted. Is it after the expected mortality of the surviving partner? If so, unless your assumptions are too aggressive, your calculations indicate you are in a position to retire as planned.

For example, aggressive assumptions would include an unrealistically low inflation rate and historically high investment returns. If calculations show assets being depleted prematurely, your plans will have to be modified. You may choose lifestyle alternatives that will reduce expenses and allow retirement at the planned time. Another choice might be to work longer to receive a larger income benefit and/or to accumulate more retirement assets so that initial plans can be fulfilled.

Test the viability of your choices by recalculating when assets are exhausted in each new scenario. Repeat the calculations until you are comfortable with a plan for retirement that balances lifestyle, timing and funding ability.

Whether you do the calculations yourself or use a commercial retirement calculator, you are not guaranteed current assets will be sufficient. Results become less reliable the farther in the future you project because of financial and economic uncertainties. Therefore, even after you retire you will have to continually validate your retirement plan remains on target.



Doug Morrison, CFP, ChFC, CLU, is the principal of Retirement Choices LLC, offering interactive workshops for couples and individuals looking for the knowledge and tools to get ready for retirement. He can be reached at 410-730-8787 or contactus@myretirementchoices.com.