One of the most common questions I receive from prospective clients is "Do I have enough money to retire?" Many people have read different things on the internet, or have used online calculators to come up with this answer. It is actually more complex than using some simple rules. The 4% rule states that you can comfortably withdraw 4% of your portfolio in the first year of retirement, and adjust this for inflation in subsequent years without the risk of running out of money for at least 30 years. This sounds great in theory, but if you follow this rule blindly, you could end up either running out of money, or not spending money on the things that you would have enjoyed in retirement. This rule assumes you hold a 60% equity, 40% fixed income portfolio, and assumes a 30 year retirement. Another issue with this rule is that it assumes the same spending in all years of retirement, and this if often not the case. Many people spend much more in the early years of retirement, and spending tends to decrease with the age of the client.
The other thing that clients need to consider is what other sources of income they may have in retirement. A client that takes social security at age 70, with the corresponding increases after reaching full retirement age will have much more retirement income later in retirement than the client who takes it at age 62. Also, some clients have pension income, or property that they plan to sell once they retire that can provide additional sources of retirement income.
It is important to first consider what your spending might look like in retirement. Some clients want to do a lot of traveling, and move to a more expensive area later in life. Other clients prefer to downsize, and anticipate much lower spending needs. Once you have determined anticipated spending, then it is time to look at the sources of income you might have in retirement. Income can result from social security, pensions, or the sale of property that becomes too much to maintain. The next step is determining the gap between expected expenses and income, and to see what can be safely withdrawn from the portfolio. Sometimes this results in being able to spend more that what the client has anticipated, and this comes as great news. But in other cases, it means that the client might have to work longer, or to downsize or reduce expenses in some other ways. It is also important to consider the assumptions on how the client's money will continue to grow in retirement based on their asset allocation. A client with a balanced 50/50 portfolio will have a lower expected return than a client with a 70/30 portfolio, so all of this needs to be factored into the calculations.
It is important to consult with a financial advisor that can look at your unique situation and provide you with the best advice for retirement. Trying to use an online calculator or making a guess can result in running out of money prematurely, or not being able to enjoy the retirement that you worked so hard for if you underestimate what you can spend.
About the Author
Patti Hughes is a Chicago Fee-Only Financial Planner. Lake Life Wealth Advisory Group provides comprehensive and objective financial planning, retirement planning, and investment management to help clients organize, grow and protect their assets through life’s transitions. She is a fiduciary, and does not sell products or earn commissions, so she truly acts in the best interests of her client