Many people can achieve their retirement goals by following a few key rules for their financial plan. These rules are most likely to deliver results if you can stay disciplined for a long time leading up to retirement, so make sure you embrace the important principles early in life. Consider these key rules for managing money to create the most financial freedom when you decide to stop working.
Create a budget and stick to it
Budget creation can be tricky, but it's one of the most important steps you can take for financial planning at any point in your life -- especially during retirement. It's important to set realistic and measurable expectations for income along with your cash requirements for basic needs and desired lifestyle.
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You're flying blind if you don't build a budget, and it's nearly impossible to identify or fix any issues if you're not able to measure progress toward your financial goals. This exercise brings organization and clarity to a financial plan, which winds up relieving stress for a lot of people. A good budget helps you to save the right amount during your working years and to live within your means during retirement. Those are generally necessary criteria for achieving financial success during your senior years.
Don't hesitate to take advantage of the many budgeting tools and apps available. These can be really useful for anyone struggling with the process.
Save the right amount of earned income
It's almost impossible to have your dream retirement if you don't save enough throughout your working years. This rule applies to younger people who are preparing for a time after their career ends, rather than people who are already seniors.
There's simply no replacement for consistent savings throughout your career. Many people are focused on investment growth, tax strategies, or even distribution tactics after they've stopped working. Those can all be helpful aspects of a financial plan, but they're unlikely to get the job done if you don't save enough money to invest.
Households should strive to save 15% of their income each year. It's difficult to hit that amount each year, but you can't afford to lose sight of this number after going through rough patches. Savings can be directed to retirement accounts, principal repayments on your home, and other assets that you can develop, such as investment properties, brokerage accounts, or cash. Keep this specific savings rate in mind when you set goals, consider a few tricks to boost your savings, and track your progress as you go.
Understand your sources of retirement cash flow
It's a great idea for retirees to identify and quantify their sources of income once they've stopped working.
- Check your Social Security account statement to forecast monthly benefit income.
- Apply the 4% Rule to your 401(k), IRA, or other investment accounts to figure out how much you'll be able to pull from those assets each year without exhausting those savings.
- If you have a pension or annuity, determine the guaranteed monthly income provided by those sources.
- Determine if you'll have any cash inflows from real estate, either from downsizing or a reverse mortgage.
- Factor in any anticipated earnings from part-time jobs or gig work.
This exercise should arm you with vital information that tells you how much income you'll have for your budget in retirement. Make sure that you account for any tax liabilities, especially on pension income or any distributions from tax-deferred retirement accounts. If cash flow exceeds all of your lifestyle goals and basic needs, then you're in great shape to live comfortably with cash left over. If it looks like your income falls short of expenses, then you might need to delay retirement or find some other solution to make it work.
Match your portfolio allocation to your risk tolerance
It's too easy to get enamored with the returns available through the stock market. The prospect of creating wealth over time is understandably tempting, but it can distract investors from other important aspects of retirement planning. Investment growth should play a major role in your financial plan throughout your working years and into your retirement, but priorities should shift as you approach the end of your career.
Retirement shortens your investment time horizon. This means that you have a shorter amount of time until you intend to cash out your investments by selling stocks or bonds. Securities tend to perform in predictable ways over long enough time periods, but short-term windows are less consistent.
All sorts of internal and external factors drive stock prices, making them relatively volatile. This creates uncertainty and risk for investors with short time horizons. Retirees have spent years successfully building wealth in exchange for risk -- it's important for older people to alter their investment allocations to lock in gains and generate more reliable income.
Retirement accounts should shift over time toward a higher concentration of bonds, dividend stocks, and other lower-volatility assets. With fewer years to enjoy compounding returns, the opportunity cost on lost growth is minimal for retirees. The absolute worst allocation mistake would be allowing excess risk to wipe out a big chunk of your account value. An unexpected bear market could create losses from which you'll never recover. Don't put yourself in that position.
