Retirement planning is a journey, not a destination.
While the day you retire may indeed be a single point in time, there are many stops on the way there. Managing your career, raising a family, buying a home, lowering your taxes (legally), determining how much to save and how to invest your money -- these all represent countless financial decisions you've made (and will continue to make) that have had (and will continue to have) an impact on your retirement security.
It doesn't stop when you retire. You may no longer have a paycheck, but you still have a job: ensuring your money lasts as long as you do.
That may sound overwhelming. But with a plan (and a little help from your Foolish friends), you can marshal all your resources and design the retirement you want. Here’s how.
1. Ponder what you want to do with the rest of your life
Good news! On average we are living longer and are able to remain healthy and active well into our sunset years.
Now the not-so-good news: Many Americans haven’t saved enough to retire in their 60s with the confidence that their money will last. The Center for Retirement Research at Boston College and the Consumer Financial Protection Bureau have both estimated that approximately 50% of retirees have cut back on their spending, or will be forced to do so, due to dwindling resources.
While that may sound like a crisis, it’s actually just a mismatch of expectations; if we’re living longer, then we should expect to work longer. At least that’s true of the typical person.
However, you, dear Fool, are no typical person. You’re here to take charge of your financial future. And that future will depend on your vision of the rest of your life.
For some retirees, their only regret is that they didn’t do it sooner. Other retirees found full-time leisure so boring and unfulfilling that they were back on the job within a year. In fact, there’s some evidence that retirement may not be healthy for everyone; besides a paycheck, a job can provide social connections, intellectual stimulation, and a sense of purpose.
Which of these statements resonates the most with you?
Each of those statements describes a different retirement pathway, and your choice will have a significant impact on what it will take to get there.
|“I want to retire ASAP!”||“I’ll take the traditional route.”|
|You long for the day when your portfolio can replace your paycheck and you can spend your days as you wish. You may even be willing to make significant sacrifices today to save more of your annual income to retire early.||You’re fine with working into your mid-60s, when Social Security and Medicare can team up with your portfolio to provide the income and health care formerly provided by your job.|
|“I’d like to ease into my golden years.”||“I hope to work for as long as possible.”|
|You value work; you’d just like to eventually do less of it. So-called “phased retirements” -- during which people work just part-time or on a project basis -- are increasingly popular, providing a little of both worlds: the perks of work paired with more free time.||You like working -- either at your current job, or at a new career that you’d enjoy well into your 70s and perhaps beyond. Yet you also recognize that most people can’t work forever, so you want to be prepared for the day when your boss or your body say it’s time to call it quits.|
2. Fund Your Freedom!
You’ll need to forgo spending today to have money to spend in retirement. In other words, you have to save money -- ideally early and often.
The amount you need to save depends on your current age, your target retirement age, and how much you’ve already accumulated. But as a starting point, most Americans would do well to save 15% of their annual incomes over the course of their careers.
For another take, consider the below guidelines in the chart. This information comes from Pete Adeney, aka Mr. Money Mustache, a fellow who retired at age 30 by learning to live on $25,000 a year and saving more than half his income.
3. Choose the Right Accounts and Contents
Uncle Sam wants you to save for retirement. In fact, he’ll give you plenty of tax breaks to do so.
Retirement accounts like 401(k)s or 403(b)s offered by employers, as well as IRAs that any working person can open, allow retirement savings to compound tax deferred. That means you don’t have to pay taxes on the gains, interest, or dividends produced by your investments in any given year, which leaves more of your money to compound through the decades.
When you open one of these accounts, you have a decision to make: Do you choose a traditional account, which can result in lower taxes this year but from which withdrawals are taxed? Or do you choose a Roth account, which doesn’t offer a tax break on contributions but from which withdrawals are tax-free? Here’s a rule of thumb: If you’ll be in a lower tax bracket in retirement, choose the traditional; if you’ll be in a higher tax bracket, go with the Roth. Or you could hedge your bets and contribute to both.
Keep in mind that there’s a limit to Uncle Sam’s largesse. In 2020, the most you can contribute to a 401(k) or 403(b) is $19,500 (with an additional $6,500 for those who are 50 or older), and the limit for an IRA is $6,000 (and an extra $1,000 for the 50-and-older crowd).
Once you open the account, you have to choose what to put in it. We Fools believe that stocks are the best long-term investments. But any money you need in the next three to five years should be in cash or bonds, including a five-year “income cushion” for retirees.
4. Maximize Your Non-Portfolio Income
Your retirement won’t rely on your portfolio alone. You’ll likely also receive Social Security, which is the No. 1 source of income for 50% of retired couples and 70% of single retirees, according to the Social Security Administration.
The key to maximizing your Social Security is claiming it at the right age; the longer you wait, the bigger your benefit (up to a point). A study by United Income found that 57% of retired households would receive the most lifetime income from Social Security if they waited until age 70 to claim benefits. However, by far the most popular age to file is age 62 -- as soon as possible -- locking in a lower benefit for these retirees for the rest of their lives.
A smaller percentage of retirees will also receive a defined-benefit pension. These fortunate Fools may have to make a similar decision -- whether to delay for a bigger benefit -- and might also have the choice of receiving the benefit as an annuity or a lump sum.
5. Consider Your Other Assets
Your portfolio, Social Security, and a pension (if you’ll receive one) will be the foundation of your retirement income. However, you may have other assets that you could use as backup resources in case of an extended market downturn or unexpected big-ticket expenses (such as long-term care). They can include the following:
- Home equity, which you can access through a standard loan, a reverse mortgage, or downsizing
- Rental properties
- Life insurance, which you can borrow from or exchange for an annuity
- Anything else of value you own, such as collectibles, antiques, and artwork
6. Be Smart in Retirement
While retirement might feel like crossing a finish line, the race isn’t over. You still have some important jobs to do, including:
- Choosing a portfolio withdrawal rate. The classic 4% rule may work for some people, but today’s historically low interest rates suggest it may be too high for others. A Stanford study found that a better guideline for how much to safely withdraw each year may be the required minimum distributions percentages provided by the IRS.
- Tap the right accounts first. Some studies indicate that retirees will maximize their after-tax wealth by withdrawing from their taxable brokerage accounts first, then moving on to their IRAs and 401(k)s. However, that general advice is not the best route for everyone.
- Managing medical bills. Spending typically decreases as retirees age, but there’s one major exception: health care. Keeping these costs under control starts with choosing the right Medicare option for your situation.
7. Get Help from a Pro If You Need It
The Motley Fool was founded on the belief that most individuals, with a little time and effort, can manage their money on their own. However, given the complicated calculus of retirement planning, hiring a financial planner can be a smart investment. You can choose to work with a pro regularly or hire a fee-only financial advisor to assess your plan once every five or so years and right before you retire.