Investing

Retirement Income: Do You Know What You Will Need?

Have you developed a plan for how you will generate the income you need when you retire? These strategies may help you get on the right course.

by Mike Woelflein - January 21, 2019

You likely have a retirement savings plan, but do you have a retirement income plan? If you’re like most people, the answer is no.

According to a recent Wells Fargo Asset Management white paper, only 19% of defined contribution plan participants have a retirement savings goal and a realistic withdrawal estimate. That means 81% of employees surveyed have likely underestimated what they’ll need for retirement income, or which financial resources they will rely on for that income.

The first step in planning is being honest with yourself, says Will Larson, a Retirement Planning Strategist with Wells Fargo Advisors. “Writing down a detailed expense analysis or budget of your current expenses is the best starting point,” he says. Those seeking a shortcut could also use their last couple of years’ tax returns. He suggests that “from your total earnings, subtract out what you paid Uncle Sam and what you paid yourself in savings. The number that’s left is what you spent.”

“Writing down a detailed expense analysis or budget of your current expenses is the best starting point.”

— Will Larson, Retirement Planning Strategist, Wells Fargo Advisors

This is a good ballpark for what you’ll need for income each year in retirement.

Here are seven things to do with that number, and other strategies to help ensure that your money lasts as long as you do:

1. Know your essentials

To get a better handle on where your money’s going, you’ll want to break the larger number out into categories. For example:

  • Essential expenses: This includes your mortgage(s), taxes, insurance, medical expenses, utilities, and other basic living costs.
  • Discretionary expenses: This includes entertainment, travel, recreation, and other luxuries.

2. Crack the “nut”

For a commissioned salesperson, the number you have to hit every month to pay your essential bills is known as “the nut.” Additional sales made are what goes toward savings, vacations, and luxuries. “The one way to drastically improve your retirement confidence is to cover at least 100% of your essential retirement expenses with money from Social Security benefits, pensions, and annuities,” says Larson.

Every other retirement income source—rental real estate or a 401(k) plan—can be impacted by market volatility or economic changes, and should ideally be used more for discretionary or unplanned expenses, Larson says.

3. Reduce unnecessary expenses

Look for places you can cut costs, in both essentials and discretionary spending.

Consider downsizing or moving to a less-expensive area—as long as it fits your vision of retirement.

Reducing or eliminating small expenses can help, too. Think of simple solutions as good targets such as your monthly home phone bill. You might even find that shopping around for new auto or homeowners insurance can sometimes save hundreds of dollars per year. “Maybe you don’t need a home phone,”Larson says. “That may seem little at only $40 a month, but that’s $480 over a year. Find a few of those and you can save a few thousand dollars every year.”

4. Give your portfolio the potential to grow

Cracking the nut doesn’t mean you should forget about your 401(k) and other retirement investments. Far from it. After all, your discretionary spending is a huge part of enjoying your golden years. The bigger your nest egg, the more flexibility and power you’ll have to do what you want. “Develop an investment strategy with a diversified ratio of stocks, bonds, and cash,” Larson says. “Find your tailored strategy that allows you to pursue growth and manage risk, so your money has the potential to keep up with you.”

5. Consider annuities

Annuities are financial products that can provide a myriad of benefits, including a lifetime income stream.“They’re not for everyone, but there are a lot of new options out there,” Larson says.

6. Dont underestimate the costs of health care and long-term care

Larson points to a relatively new planning term, the “retirement smile.” Studies show that retiree spending tends to decrease annually over the first 10 to 15 years of retirement, before turning sharply higher, resulting in a graph that resembles a smile.

“Health care and long-term care are big reasons the curve shoots up at the end,” Larson says. As you plot your plan, remember to factor in costs beyond Medicare, such as prescription drug plans (Medicare Part D) and insurance to cover Medicare gaps, as well as out-of-pocket costs.

Most Americans do not know that Medicare does not cover the costs of long-term care for custodial care, either at home or in a nursing home, which can drastically impact your retirement assets. “Consider long-term care insurance,” Larson says. “Insurance has come a long way, and you may consider optional riders, or a policy that combines care and life insurance benefits.”

7. Maximize Social Security

According to a report by USA Today, 60% of Americans currently claim Social Security before their full retirement age, even though they would receive more benefits if they waited to reach full retirement age or even later. For example, waiting to claim benefits until age 70 instead of age 62 can increase monthly payments by 75%—though that means forgoing any of those benefits for eight years. “Waiting is usually best,” Larson says. “That’s not universal, but it pays to make an informed decision on when to start.”

1Guarantees are based on the claims-paying ability of the issuing insurance company. Guarantees apply to minimum income from an annuity; they do not guarantee an investment return or the safety of the underlying investment choices.

Insurance products are offered through nonbank insurance agency affiliates of Wells Fargo & Company and are underwritten by unaffiliated insurance companies.  Annuities are long-term products suitable for retirement funding and some annuities are subject to market fluctuations and investment risk.

Mike Woelflein is a business and investment writer based in Yarmouth, Maine.

Image by iStock

Additional Resources

Learn more about the retirement income planning.

Learn more strategies to help maintain your lifestyle in retirement.