Author: Mike McGrath
The question “How much do I need to retire?” has prompted many a Google search, yielding general rules and formulas useful for starting a productive conversation. Unfortunately, though, general rules of thumb on how much needed to retire aren’t sufficient when it’s time to build an actionable plan. This is because retirement planning, like all financial planning, is intensely personal in nature. I will come back to the personal aspect of this as we conclude, but for now, allow me to lay out some basic groundwork to get us started.
This question of how much should you save for retirement actually has a simple premise, and it’s important to keep that in mind. You’re just trying to avoid running out of money (or “have enough”). In order to address the many facets of this question, we do need to spend some time on the three building blocks of developing a retirement budget, which are:
I know that already sounds daunting, but we advise clients to simply begin the process, build block by block, and avoid putting too much pressure on themselves to get things exactly right. The only certainty in financial planning, as in life, is that things don’t stay the same for long. We need to allow ourselves room to experiment, adjust, and, yes, even guess at a thing or two, as we move further into the process.
With that backdrop, the first place we would go with our clients is to look at their current budget. While that sounds a lot like making an appointment for the dentist, it is extremely eye-opening and useful to review what our core expenses are. Three good places to look are:
The analysis of current spending will provide a baseline for how you will likely be spending your resources in later years.
To ease this up, our clients use their personal financial website, which links up to accounts (Safely! Always safely!), and does the quick math for them. On your own, somewhere like Mint does a good job aggregating your information too.
Your current life gives you a good idea of your future, but you need to make some changes in the calculations. Some line items to evaluate are:
Some overlooked costs and benefits that can come up in retirement are:
We also need to adjust these costs for expected inflation, which is a conversation in and of itself. For us, we review historical data of multiple rolling periods to figure in a real inflation number and then review and adjust along the way, as new data is available. This allows us to average in the extremes such as 1979-1980 on the high end with the abnormally low inflation environment we have experienced these past few years. In addition, we will adjust inflation separately for costs related to health care, as we all have experienced the rapid increase of these costs over the past twenty years or so.
Currently, if you’re 65 you’re expected to live to 85. And that’s just on average. However, we think our clients are better than average! As a result, we will run our analysis to age 100, unless given direction with reasonable support to do otherwise.
Armed with a budget, we then turn our focus towards the second aspect of our discovery process – the income side of the ledger. Here, we analyze our client’s:
A third facet to review and develop is our client’s balance sheet. Here, we begin by aggregating and understanding their retirement accounts such as any 401(k), 403(b), 457, or other defined contribution plans. Beyond tax-advantaged assets and sources of income, we also need to review individual, joint-tenant, trust, TOD, and other nonqualified assets.
Beyond the liquid assets that build our net worth statement and potential income sources, we will review a client’s illiquid assets as well. These would include the value of any real estate (including the primary home), the value of business interests, direct ownership of precious metals, or related items.
The combination of the above will get us a foundational view of our client’s situation in terms of a balance sheet, net worth, and cash flow statement.
We now need to take a step back and look at the bigger picture in light of what we have created. Are they caring (or might they in the reasonably near future care for) parents or other relatives? Are they expecting an inheritance of some kind? Are their children successfully launched or are there issues with them standing on their own two financial feet? What is their own family health history in terms of the potential for long-term care, life expectancy, or other health-related issues? These are significant forces, which could dramatically alter the course of one’s life and the expectations one carries with them into retirement. Therefore, they absolutely have to be acknowledged and addressed for what they are to make sure we account for their potential in the financial plan.
Within the framework of what I just described, our planning team is relentlessly looking for ways to improve the structure and results of our clients’ plans. This is largely where each individual situation begins to vary significantly from one another. We might recommend a Roth conversion for one client and not another. We might suggest an increase in salary deferrals into a company 401(k) to increase savings and reduce income taxes in one case, but that might not be necessary or appropriate in another case. The constant question is how we can make the plan better with the aim of reducing the natural anxieties that come with a life change as major as retirement. Part of what makes that possible is the use of planning software, which allows us to compare and contrast limitless scenarios. These comparisons help us to narrow down and focus on only the most efficient strategies for each client situation. We will aggregate all of our client’s assets, debts, pension statements, etc. into one location, which only they (and with their permission, we) have access. The accounts are then automatically downloaded daily so the client can view their overall situation instantly and accurately. Furthermore, we are able to view their updated scenario live at any moment as we continue the lifelong process of planning, adjusting, and adapting their finances to their real life. As appropriate, we will review these client-specific recommendations with their other advisors, such as their CPA and estate attorney, to collaborate and confirm our thoughts.
Finally, with the core planning work compiled and analyzed and our understanding of the client’s situation sufficiently complete, we can advance the conversation that started the whole project in the first place, and which permeated all of the discussions we have had to date – the meaning and purpose our client desires to live out. And that, dear readers, is why we are here, why we have done this work, and why this is so important to our clients and their families. That is also why the ultimate answer to the question of how much one needs to save for retirement is so personal and consequently diverse.
Each of us carries with us a certain world view and purpose for being on this Earth. We care for ourselves, our families, and dearly held charities. We have “bucket lists” we want to fill. We have obligations, which require us to care for others who have cared so much for us. All of these things, these foundational life things, are why we think ahead, plan ahead, and invest with the future in mind. This is why I joined this business 20 years ago and why the team at EP Wealth Advisors eagerly comes to work each morning. Ultimately, this is why we endeavor to answer this crucial question for our clients not in terms of a general rule of thumb or constrained by a formulaic approach, but with their very personal lives and sense of meaning in mind.
If you are a small business owner, be sure to view our small business financial planning page for more information.
If you would like to contact one of our wealth advisors, please visits our Contact an Advisor Page or give us a call at 800-272-2328. For more information on retirement planning, please visit our Retirement Planning service page for additional resources on the entire retirement planning process.
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