The scary thing about retirement is that it comes with so many unknowns. What will your medical bills look like? How costly will it be to maintain your aging home? And will your investments perform well enough to generate enough income for you to live on?
It's not surprising, then, to learn that running out of money tops Americans' list of concerns on the retirement-planning front, according to the American Institute of CPAs (AICPA). If you're worried about depleting your nest egg prematurely, you'll need to do two things as retirement nears -- assess your savings, and implement a backup plan if your cash reserves aren't as robust as you need them to be.
How well will your savings hold up in retirement?
These days, Americans are living longer, and so it's a smart idea to plan on a 30-year retirement, assuming you're planning to kick yours off sometime during your 60s. The good news is that if you follow the 4% rule -- withdraw 4% of your nest egg during your first year of retirement and adjust subsequent withdrawals for inflation -- there's a good chance your savings will, indeed, last for 30 years.
Now the 4% rule isn't perfect, and it does make certain assumptions, such as the fact that your portfolio will be pretty evenly split between stocks and bonds. But it's a good starting point for assessing your savings.
Let's imagine you expect to need $60,000 a year in retirement to live comfortably, and that $24,000 of that will come from Social Security. That means your savings will need to provide $36,000 a year of income, assuming your nest egg is your only other income source. If you multiply $36,000 by 25 as per the 4% rule, you'll arrive at a savings target of $900,000. If that's what your IRA or 401(k) looks like as retirement approaches, you're in good shape. If not, you'll need to make some adjustments to ensure that you don't end up running out of income later in life.
Making up for absent savings
If your savings balance is pretty far off from where you'd like it to be going into your golden years, the last thing you ought to do is retire anyway and assume you'll manage. Doing so could put you in a position where you're strapped for cash later in life, and at a time when working part-time or cutting back on expenses isn't particularly feasible.
Instead, aim to postpone retirement for a few years to boost your cash reserves. Currently, workers 50 and older can contribute up to $7,000 a year to an IRA, and $25,000 a year to a 401(k). Max out the latter for three years, and you'll boost your nest egg by $75,000 without even accounting for growth on your savings.
At the same time, retiring later might allow you to hold off on filing for Social Security, and doing so could boost your benefits substantially. For each year you delay those benefits past full retirement age (which is either 66, 67, or somewhere in between, depending on the year you were born), you'll increase them by 8% a year up until you turn 70.
Going back to our example, imagine you're entitled to $2,000 a month, or $24,000 a year, in Social Security at a full retirement age of 67. If you work an additional three years and hold off on filing during that time, you'll boost your benefits to $2,480 a month, or roughly $30,000 a year. At that point, you'll only need $30,000 a year from your nest egg, not the $36,000 indicated above. And that means that you can get away with saving $750,000 in time for retirement rather than $900,000.
If postponing retirement isn't an option (say, you're forced out of your job or your health is too poor to allow you to work full-time), all isn't lost. You can still make lifestyle changes to lower your senior living expenses, or try working part-time once your full-time career comes to a close to supplement your income. But ideally, it does pay to enter retirement with adequate savings. Doing so is a good way to avoid running out of money and having your worst fears realized.