Is retirement on the horizon for you? If so, congratulations! You've worked hard through your career, and you deserve the opportunity to live life on your terms, doing what you want to do when you want to do it.
Before you stop earning a full-time wage and begin living off retirement benefits and savings, however, you might want to take a step back and make a plan. Learning things the hard way after the fact -- when it's too late to do much about it -- is a recipe for financial heartache.
Here are four questions you'll want to answer for yourself before you retire (note that one of them includes two related sub-questions).
1. How much will you be spending every month?
It seems like a no-brainer, yet plenty of people can't cite a specific figure. If you've not done so yet, add up all your monthly bills that won't stop coming due just because you'll soon stop working. These include utilities, car insurance, and perhaps rent or a mortgage payment. It's also possible you'll be adding costs you're not currently paying like supplemental health insurance to cover what Medicare doesn't.
The experts' rule of thumb is that you should expect to spend about 75% to 80% of what you're spending now once you retire. The savings largely come from reduced outlays for transportation and clothing. That's not accurate for everyone, though. For some retirees, living costs will be roughly the same as what they were before retirement.
2. How much will you be collecting every month?
Once you know how much money is going out every month, you'll want to figure out how much you can realistically bring in through your savings and other sources.
This number isn't etched in stone. Long-term bonds still generally pay more than dividend stocks do. But unlike stocks, there's no growth in principal when you own bonds or other debt-based holdings. Conversely, the values of stocks can be volatile, while bonds' values remain relatively steady. Investing is always a trade-off.
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Whatever your risk-tolerance is, your portfolio is probably intended to generate a certain amount of income every month, or at least every calendar quarter. Create a hypothetical, income-producing portfolio using the amount you've got saved up. Now, factor in Social Security payments. Also keep in mind that most retirement income is still taxed like regular work-based income, so you may be pocketing less than you're withdrawing from an IRA, for example.
If the total you come to is not going to cover your costs with a little bit of cushion to spare, you'll obviously want to adjust your portfolio as needed.
2a. At what point will you run out of savings?
How can you know when (or even if) your nest egg will be used up? Fortunately, there are several great retirement-savings-depletion calculators online that consider your average annual expected gains for your portfolio while factoring in the impact of you taking money out of it. Again, you'll want to adjust your portfolio accordingly if you expect to need higher average returns.
On that note, you should be aware of the required minimum distributions (RMDs) that the IRS requires holders of tax-deferred retirement accounts to start taking once they turn 73. Also bear in mind that just because you're taking RMDs doesn't mean you can't reinvest that money into new stock and bond positions.
2b. Will working in retirement be a viable option for you?
Is there no realistic, safe-enough scenario to cover all your monthly expenses with your existing retirement savings and Social Security income? That's OK. Just because you're retired doesn't mean you can't work in retirement.
That said, there are some tax implications to consider. Not only does working in retirement generate taxable income that could push you into a higher tax bracket, but your Social Security payments could be reduced by your employment as well. Depending on whether or not you've reached your full retirement age, the Social Security Administration reduces your benefit payment by $1 for every $2 or $3 you earn above an annually adjusted limit. For this year, that limit is $21,240.
Depending on your circumstances, that may or may not be worth it.
3. How will I handle unexpected healthcare costs?
Although a few retirees will still have access to a previous employer's healthcare plan, most people will be switching their insurance coverage to Medicare. But Medicare doesn't cover everything. Mutual fund company Fidelity says the average person will spend on the order of $160,000 of their own money on healthcare over the course of their retirement. You may want to explore so-called gap insurance that covers what standard Medicare insurance doesn't.
Perhaps the biggest and most alarming potential expenses that Medicare doesn't cover, however, are stays at long-term care facilities by people who need round-the-clock care. Genworth Financial estimates these facilities can cost between $5,000 and $10,000 per month, depending on the type of services required.
Although such policies aren't cheap, long-term care insurance is available to help keep these potential outlays in check.
4. Does my estate plan accomplish what I want it to?
Last but not least, although it's not directly related to your retirement, this is a prime time to ask yourself if your current estate plan, will, and insurance coverage still make sense. They may not, particularly if these plans were made years ago when your situation was different.
Think about the things that may have changed in the meantime. A term life insurance policy meant to ensure your spouse could raise your children on their own and cover the costs of their college education may now be protecting college graduates with full-time jobs. Your will might name as heirs people who are no longer alive. You may no longer need burial insurance if you've got more than enough money in the bank to cover such expenses.
Updating these plans is not only courteous, but it will also save your survivors and family from unnecessary legal headaches -- and even financial and legal costs -- in the future.
