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The Cost of Retirement

There is one burning question I repeatedly hear from those who are nearing retirement. It’s a simple question, and fortunately there is usually a simple answer, too. But the answer, once revealed, doesn’t often answer the question.

That may sound odd, so allow me to explain.

The question is typically phrased as such: “How much should we plan to spend each year in retirement – what’s common?” It’s a simple question. And as I mentioned, there is usually a simple answer, too.

The answer is, “As much as you spend now, maybe a little less.”

Sure, that’s not an exact figure, but that’s not the point. Even a number spelled out to two decimal places would not fully answer the question. Why? Because that question often isn’t the real question they are asking. It is a round-about way of trying to get to the heart of the matter.

The real question these pre-retirees are asking is, “How much do we need in savings to live an enjoyable life in retirement without taking huge risks with our hard-earned savings?”

The answer? It depends.

As we often tell our clients, it depends on the lifestyle you want to lead in retirement. Let’s say you envision retirement being all about relaxation, water-front views, and an occasional alcoholic beverage. That’s a good start to begin planning your necessary savings.

But here’s the thing. You may be describing a beach-front lifestyle in Hawaii with umbrella drinks, or a farm-pond fishing life in Nemaha County with cheap beer. Both have plenty of relaxation, water, and alcohol, but one is far more costly than the other.

When it comes to planning for retirement, we need to be specific. Specific, that is, about our plans – not the dollars. There are far too many variables that come into play to be precise with the dollars. Don’t worry about the hundredths, tenths, ones, tens, or even hundreds place when calculating these things. Keep it to thousands.

Don’t worry about projecting every little expense either. Four spending categories make up about 80% of most retiree spending: food, housing, health care and other insurance, and travel/entertainment. Focus on those big areas. Then tack on 20% more for all other expenses.

The U.S. Bureau of Labor Statistics reports that the average household in the Midwest run by someone age 65 or older spends $47,580 per year.

So, if you are the average retiree in Kansas, let’s call it $50,000 a year in expenses.

Clearly, your annual spending rate may be more or less. Again, it depends on what you want out of retirement.

But going back to the beginning of this article, that number only answers the initial question retirees often ask – how much should we plan to spend each year in retirement? That’s still not the real question. The real question is, “How much do we need in savings to live an enjoyable life in retirement without taking huge risks with our hard-earned savings?”

Once you have computed your annual spending rate, we can use some quick and dirty – yet effective – math to answer the question. Start with your annual spending rate, subtract your guaranteed sources of income, such as Social Security or pensions, and divide that result by 3.5%.

Let’s use the average Kansas retiree as an example. Start with the annual spending rate of $50,000 and subtract annual Social Security payments of $20,000. That’s just a guess, but it’s close. That leaves us with $30,000. Divide that by 3.5%, and we get a little more than $850,000. In other words, the average Kansas retiree probably should have around $850,000 in savings.

That’s the real number people want to know. That’s the number that will indicate whether you are on track to live the way you want in retirement. It’s not precise, but precision is not required. It’s far more important to make sure you are in the right ballpark.

What’s your number? What ballpark are you in? Are you in it?

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