There are many ways to say it: You can't judge a book by its cover. Looks can be deceiving. All that glitters isn't gold. A practical application of those clichés is that you shouldn't start daydreaming about your retirement based on portfolio balance alone.

New legislation aims to reinforce this message. The SECURE Act, signed into law in 2019, will require 401(k) plan sponsors to tell you how your portfolio balance translates into income. If your statement shows a balance of $1 million, for example, that might generate annual income of $45,000 -- and that's the money you'd live off in retirement.

Young black man reviewing information on his laptop

Image source: Getty Images.

Projected income is a good metric for tracking your savings progress, because it's easy to assess. You already know how much income you need today, after all. And if your portfolio can only support half of that, the message is clear: Keep saving.

The details of how your 401(k) plan will share projected income with you are still uncertain. At this point, the law requires only an annual disclosure. And the formula that sponsors will use to project your income hasn't yet been defined by the Department of Labor. As lawmakers work out those details, you can prep yourself to make the most of this new metric. Here are three actions you can take today.

1. Track your spending

You may get by without an in-depth understanding of your living expenses in your working life, but that will change in retirement. You'll be on a fixed income with far less cushion to overspend -- specifically, no more bonuses or annual raises. Even if retirement is decades away, there are advantages to tracking your spending today:

  • You'll uncover savings opportunities.
  • You'll be more mindful of your spending, which usually means you spend less.
  • You'll have more confidence about your ability to reach your financial goals.
  • You'll start to differentiate between wants and needs.
  • You'll know how much income is needed to support your lifestyle.

You can use an app like Good Budget or Clarity Money to track your expenses. Or, if you are married, you may prefer to log your transactions in a shared spreadsheet. Use whatever system works for you, and get laser-focused on where your money goes.

If you identify ways to spend less, increase your retirement contributions accordingly.

2. Have a Social Security strategy

Your savings isn't your only source of retirement income. Social Security has a role, too. You can claim Social Security as early as age 62 or as late as age 70. The earlier you claim, the lower your monthly benefit will be. Claiming early usually means you're giving up your paycheck and will no longer fund your retirement accounts -- so that, in turn, affects the future growth of your savings.

Get insight into your timing options by reviewing your most recent Social Security statement or logging into My Social Security. If you have a long enough work history, there are four data points you can access to understand how timing affects your monthly benefit:

  • Your Full Retirement Age (FRA), or the age at which you qualify for your full benefit
  • Your estimated benefit at 62
  • Your estimated benefit at FRA
  • Your estimated benefit at 70

The estimates are based on your earnings to date, so they won't consider future pay increases. Even so, the numbers can get you thinking about when you might want to retire and how Social Security might supplement your income.

3. Get familiar with financial terms

Once the Department of Labor develops the formula to project income from your portfolio balance, it's important you understand it on some level. There will be assumptions involved, and those assumptions may not align with your situation. Give yourself an edge in evaluating those assumptions by brushing up on key financial terms, such as:

  • Asset allocation: The composition of your portfolio across different asset types like stocks, bonds, and cash. You can adjust this composition to manage your risk.
  • Annuity: As a concept, an annuity is a fixed stream of payments. (It's also specifically an insurance product that converts an amount of money into a series of payments in the future, but that shouldn't come into play here.)
  • Bonds: Debt securities. Bonds and bond funds have less growth potential than stocks, but they do provide stable income.
  • Earnings rate: Annual income as a percentage of the asset generating the income.
  • Equities: Shares in a company. Equities and equity funds can rise and fall in value from year to year, but they have stronger growth potential than stock.
  • Growth rate: The percentage increase in the value of an asset, over the course of one year.

Putting it all together

Your portfolio balance is only the outside cover of your retirement story -- while the income sets the story's tone. Focusing on income potential, from both savings and Social Security, can help you write the story you want.