During a recent conversation with my wife’s friend, she mentioned that her financial planner advised her to work three more years before retirement. Since she doesn’t particularly like her current job, I asked if she would like to retire now and she said she hadn’t acquired a large enough nest egg based on what her adviser told her. I asked her how much income she needed and she didn’t know.
This is a common scenario. A few years ago, a brokerage company ran a series of commercials that asked, “What is your number?” There were people walking around with big numbers tucked under their arms. Most of the numbers were in the millions. The problem with this focus is that it ignores the most important element to providing retirement security—income.
We spend our entire working lives being told to save, invest and build a nest egg. We buy stocks, real estate, bonds and other investments without regard to what we will do with that money when we need to live off it. (After all, there are only two ways to create income—you at work or money at work.) The problem arises when you’re ready to make the transition and your money isn’t ready to help. A tax preparer recently told me about a client of his who is struggling to pay his bills, yet his net worth is more than $4 million. That is what I call asset rich and income poor. In many ways, it’s worse than being poor. After all, you have the liabilities and costs of having wealth, without enjoying the benefits.
To retire happy, you need a plan. For the plan to succeed, you first need to know what you’re trying to accomplish. Here are two important steps to determine what you need to retire comfortably. First, ask yourself, how much income do you need to retire? This shouldn’t be a guess or a ballpark figure. I often hear general rules of thumb being used like “you need 80 percent of your pre-retirement income.” The problem is, for some people, that’s will be too much and for others, it’s not enough. Since this is your retirement, if you want it to fit, you have to try it on.
Working on this issue with clients, we start by having them understand Parkinson’s Law. When I was introduced to this law of money, it was presented as: “Expenses have a tendency to rise to meet or exceed income.” This is the reason most people fail to create financial security for themselves.
Next, we have them complete a cash flow analysis worksheet. This exercise helps you know exactly how much you spend and what you’re spending it on. We need to do this since money spends itself is how most people end up budgeting and tracking their expenses. This is the first step in gaining control over your financial health. Once you know what your life costs are each month, look over the list to determine if you’re spending more on providing elements of your life than you realize. We have no feeling about what a client spends money on in their day-to-day life. We do look for ways to deliver their lifestyle for less money. For example, sometimes we find ways to reduce insurance costs by rearranging or consolidating coverage; sometimes it takes restructuring mortgages and debts to be more efficient. We never know in advance where we can find the money.
Once that step is completed, we look at what expenses will eventually phase out. Maybe subscriptions, dry cleaning or work clothes will no longer be needed. There are probably other expenses that will go away, such as commuting costs, lunches out and parking. Then we need to add back expenses that you didn’t have previously or things you want to spend more on. Will you have to pay for health insurance? Do you want to travel more? If so, to where? What do you want to spend? This can be a fun and enlightening process. After all, you’re designing the remainder of your life. Either way, once the picture is clear, the decisions about investments, retirement date and preparations become clearer and easier to accomplish.
Here’s to you enjoying a great retirement!
Roger Gainer is a Chartered Financial Consultant (ChFC) and Retirement Income Certified Professional (RIPC) from the American College. He’s also a licensed insurance agent for life and health insurance, a certified paralegal for estate planning and a current board director of the Sewerage Agency of Marin and the Alto Sanitary District. You can contact Roger and read his blog at www.gainerfinancial.com.
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