Thinking about retirement can be daunting. There’s a lot to consider, and many times, people don’t start planning until the last minute. To make planning for retirement a more streamlined process, there are a few guidelines you can follow. This guide explores some of the most commonly given retirement planning advice.
Rule #1: Begin Putting Money Aside ASAP
One of the first recommendations of retirement planning is to start saving early. The earlier you start saving, the sooner you’ll have enough of a fund built up to retire comfortably. Although saving for retirement can be started at any age, your early 20s is often a good time to get going. The power of compounded growth over time ( especially decades) should not be underestimated. If you can direct the bulk of your early years retirement savings to a tax deferred or tax free account such as an IRA or 401k, the compounding effect is even more powerful, as there is no interruptions for taxes due for all those many years. That way, by the time you reach your golden years, you’ll have a nice nest egg built up. If you have already advanced in your career, the only time better than your 20s is today.
Rule #2: Save As Much As Possible
Another retirement precept is to save somewhere between 10 and 15 percent of your current income each year for retirement. This is a great starting amount to help you start putting away cash for later in life. However, this amount may need to be adjusted depending on your circumstances. If you’re unable to contribute 15 percent but your company offers a match up to 3 percent, can you contribute up to the match?
On the other hand, if your retirement years are fast approaching, you may want to put aside more than this. In that situation, you could increase your savings to as much as 20 to 25 percent, even if this means some negative adjustments in your current spending habits.
Rule #3: Have a Liquid Emergency Fund
Having an emergency fund is a key aspect of any financial plan. During your retirement, this becomes even more important to help pay for medical bills or other unforeseen emergencies that may arise. In general, retirees should try to have about 6 months’ worth of income in a separate, accessible savings account for emergencies. This money can then be used without dipping into retirement funds in the event an expense requiring cash rears its head.
Rule #4: Determine a Withdrawal Rate That Feels Safe for You
One of the most common retirement recommendations that experts make is the 4 percent rule for retirement planning. This strategy assumes retirees withdraw no more than 4 percent of their retirement savings each year. Each year, retirees will need to adjust their withdrawals for inflation.
To put this into context, let’s go over an example. Let’s say that you save up $1 million for retirement. Using the 4 percent rule, you would withdraw $40,000 from that accumulated base in your first year of retirement. The next year, if the inflation was 0 percent, you would withdraw another $40,000. The following year, if inflation goes up 1 percent, you withdraw $40,400. Then, each year after that you would continue to adjust your income based on the inflation rates.
Despite this rule working much of the time, there are a few caveats. For one thing, this rule is based on a 30-year timeframe. Eventually, you do start to draw down balance, and if you end up living for more than 30 years, then you may not have enough cash when you need it. Additionally, this retirement rule doesn’t account for taxes or other fees. If you are using your tax deferred retirement account balance to cover these fees and taxes, then you will likely deplete your funds sooner.
Rule #5: Pick Low-Cost Funds
Another retirement guide is to choose investments that have low carrying costs. Doing so means that you can maximize your investments without having to spend too much. Investing in target date funds is a practical option for many people since the expense ratio is significantly lower than other types of investments.
You’ll also want to remember that some investments incur additional expenses. For instance, it’s important to consider the expenses that mutual funds and exchange-traded funds (ETFs) charge, as well as the commissions that are paid for selling or buying. You can also look for investments that don’t charge commissions. If your time frame is long enough ( i.e. more than 10 years) you can consider just buying and holding some core investments instead of changing them frequently.
Rule #6: Consider How Much Income You Will Need in Retirement
One of the most common retirement rules is the 80 percent rule. Basically, this rule implies that you’ll need about 80 percent of your pre-retirement income during your golden years. Why wouldn’t you need 100 percent of your pre-retirement income? It’s generally assumed that people will not incur the same expenses as when they worked.
However, this rule has generated controversy. That’s because new research has shown that retirees may actually spend the same amount that they did pre-retirement. Some reports even state that spending increases, since many individuals begin to enjoy new leisure activities with their increased free time. Still, as retirees get used to their retirement and settle into patterns, they may start to develop habits that can keep them in check. The key is to identify your goals in retirement and determine how much income you will need to meet those goals and lifestyle choices.
Conclusion
The sooner you start planning your retirement, the better. You’ll be able to start relaxing and enjoying the finer things in life. Just remember these rules. Doing so will set you up for success and leave you with the tools you need to have healthy, successful, and financially rewarding golden years.
Robert Ryerson 