The future is an uncertain thing, and planning for uncertainty inevitably involves making some assumptions. Here are seven that, done improperly, can — yes, derail your retirement realities.
How Long You’ll Work
Perhaps the most important assumption is when you plan to quit working, or perhaps more accurately, when you plan to start drawing down your retirement funds. Today most Americans are doing so at 62, though 65 seems to be the most common assumption—and while using 70 (or later) will surely boost your projected outcomes (it both gives you more time to save and reduces the time that you will be drawing down those savings), it may not be realistic for many individuals.
Indeed, the 2022 Retirement Confidence Survey from the nonpartisan Employee Benefit Research Institute (EBRI) notes that the age at which workers expect to retire has been slowly rising. In 1991, just 11% of workers expected to retire after age 65. By 2022 that number had nearly quadrupled; 41% of workers now report that they expect to retire after age 65. At the same time, the percentage of workers who say they expect to retire before age 65 has dropped significantly—from 50% in 1991 to 34% in 2022.
That said, the RCS has consistently found that a large percentage of retirees leave the workforce earlier than planned — nearly half (47%) in 2022, in fact. Many who retired earlier than planned say they did so because of a hardship, such as a health problem or disability, not related to COVID-19 (32%), or changes at their employer such as downsizing or closure (23%). On the other hand, 38% said say they could afford to retire earlier.
The bottom line: Even if you plan to work longer, the timing of your “retirement” may not be up to you.
How Long You’ll Live
The good news we are living longer — but that means that retirements can last longer, and medical costs can run higher. But while we’re living longer, studies indicate that we tend to underestimate how much longer we will live. The Social Security Administration notes that a man reaching age 65 today can expect to live, on average, until age 84.3, a woman turning age 65 today can expect to live, on average, until age 86.6. But those are just averages. About one out of every four 65-year-old today will live past age 90, and 1 out of 10 will live past age 95.
Moreover, while a lot has been made lately of the gap between men and women (women are said to live about five years longer, on average), the gap narrows significantly once you get to retirement age (apparently males are more likely to engage in risky behaviors in their youth!)
How Much You’ll Earn on What You Save
Let’s face it — if you could predict future market returns, you probably wouldn’t have to be worrying about retirement (or reading this). But as we all know — and have seen proven time and again over the past couple of decades (and perhaps particularly the past several months), markets frequently defy even the expectations of experts.
There are, of course, “bad” investments that can cost you money, and good investments that can help your account grow faster—and sometimes both.
So what should a non-expert assume? It’s generally best to be conservative—one of the biggest mistakes individuals make is assuming outsized returns on their savings (particularly when the projection calculator gives you an unsatisfactory result).
Regardless, you’ll want to make sure that assumption is consistent with how your savings is invested. For example, if you have all your savings invested in a money market fund, it’s highly unlikely (some would say impossible in the current environment) for you to actually get an 8% return.
How Much More Things Will Cost
For years the notion of adjusting one’s cost of living for the impact of inflation seemed little more than an intellectual exercise. More recently, we’re all seeing up close and personal the impact of inflation — and how what you used to be able to get for $x — now costs more, and in some cases, much more[1].
Ultimately, how much inflation undermines your retirement security depends on what you’re spending money on — but what you need to keep in mind is that it’s a real thing. Something to which the experience of recent months has certainly given credence.
How Much Taxes You’ll Pay on Your Retirement Savings
A key part of the incentive for retirement saving in a 401(k) (or 403(b)) is the ability to postpone paying taxes on those salary deferrals. The operative word here is, of course, “postpone.” Sure enough, as those retirement savings are withdrawn in retirement, you can bet that Uncle Sam will be expecting his “cut”—and, at a minimum, on a frequency dictated by the required minimum distribution schedules of the IRS (though those have been pushed back some).
In fact, every time I see one of those reports about the average 401(k) account balances of those in their 60s, I can’t help but think that somewhere between 15% and 30%, and perhaps more—won’t go toward financing retirement at all, but will instead go to Uncle Sam and his state and municipal counterparts.
After all, that’s one of those pre-retirement expenses that doesn’t end at retirement. And, while it may well be at lower rates than when it was deferred pre-tax — it may not be. Oh, and as income, it may well impose a “tax” of its own — means-testing benefits like Social Security.
How Much/Fast You’ll Spend
This may, of course, be tied to the when. For years, financial planners had touted the 4% “rule,” a rule of thumb for how much money can be withdrawn from retirement savings every year (generally adjusted for inflation) without running out of money. There’s no real magic to the 4% rule, of course — it’s just the math that allows for a systematic withdrawal of funds roughly timed to coincide with the expected lifespan of the individual. Portfolio returns can impact this, of course, so much so that that factor, coupled with the increased longevity, has these days led some to call instead for a 3% rule.
But whatever formula you use, it’s important to remember that while a low rate of withdrawals might help preserve your portfolio, it might not produce a very comfortable living.
How (Much) Differently You’ll Spend
This has two components. Some costs (notably medical) frequently increase in retirement, particularly with the longevity trends noted above. Others — such as commuting costs, and even the “cost” of saving — decrease.
But think — 10 years ago would a “fit bit” have even been on your radar, much less your arm? New products and services continue to emerge — some will make your retirement budget more manageable —others may well strain it.
With all the uncertainty and variables to consider — there is one key assumption about retirement saving that you can, to some extent, control — and that’s “How Much You’ll Save.” Because what really matters in achieving financial security for retirement is the resources you have available, a large part of which may well depend on how much you have saved (including the amount of the employer match, if any), and some help along the way from a trusted advisor in making solid, reality-based assumptions.
Footnote
[1] There’s a calculator that you might find interesting at http://www.usinflationcalculator.com/.
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