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The age old question facing retirees & pre-retirees – Have you saved enough?
This question is complicated for a variety of reasons, but it’s one that requires ongoing assessment to make sure it’s a yes.
By going step-by-step and assessing your current outlook, the answer to the question “Have I saved enough” can be far clearer.
Here’s a detailed, step-by-step guide to help you assess if you’ve saved enough for retirement.
Step 1: Assess Your Current Lifestyle and Retirement Goals
What do you want your retirement to look like? Think about where you’ll live, the activities you want to pursue, travel, hobbies, and your overall quality of life. Does this include part-time work?
Estimate the Age You Plan to Retire
What age do you hope to retire? Consider both your financial and personal readiness.
Account for any major life events that could impact your plans (e.g., health, family circumstances).
Anticipate Retirement Longevity
Estimate how long you’ll be in retirement. Yes, we know – an impossible question to answer. But this will help determine if you have saved enough. 2 things you should consider:
- Run a life expectancy calculator. Actuaries are very good at giving a range of how long people will live based on health, lifestyles, and family history. Check out some useful calculators to at least give you an estimate.
- It’s not uncommon for people to plan for 25-30 years in retirement. While this isn’t a guarantee, it’s better to prepare for a longer retirement, and adjust accordingly if necessary.
Step 2: Calculate Your Expected Annual Retirement Expenses
Current Cash Flow Review
This is the baseline – but understand that this will change in retirement.
Most people have a good feel for their monthly cash flow. But in case you don’t (or need to verify), here is a link to download a free monthly guide.
This will allow you to get a feel for your annual expenses, both essential and discretionary.
Retirement Costs & Savings
Two of the larger changes you’ll experience are:
- Healthcare Costs
- Taxes
If you’re retiring prior to Medicare eligibility, there’s more planning you’ll need to consider. There are numerous options, but they’re generally not inexpensive.
Taxes may change significantly, since earned income is taxed differently than retirement income.
Make sure you review a recent pay stub and compare current deductions vs how your retirement income will be taxed.
Debt Considerations
Perhaps you’re waiting to retire until you pay off your mortgage. Or perhaps you’ll have a mortgage in retirement.
Regardless, understanding how your debt obligations in retirement will work are usually one of the largest factors to consider.
Step 3: Gather Your Retirement Income Sources
Generally, there are 4 sources of income that retirees could have:
Social Security
We’ve done a couple of videos on Social Security and when to consider collecting. Go to ssa.gov if you haven’t yet to determine your monthly income.
Pensions or Annuities
Another one we’ve done videos on.These tend to be a guaranteed income stream, but are often times fixed. Will this withstand the test of inflation?
Other Sources of Income
Some retirees may not be ready to hang it up entirely just yet. If that’s the case, there may be part-time income. Just remember, you want to note the net income, not gross, when calculating this.
There could also be inheritances received, but you should proceed with caution – as this is not a good strategy to rely on this. Keep it in mind, but we generally do not include this in our planning until the funds are received.
Investment Accounts (401(k), IRA, Brokerage Accounts)
Review the balances of your retirement accounts and any non-retirement savings (e.g., brokerage accounts, taxable investment accounts). This is commonly where most people save, and where to start to determine if you have saved enough.
Estimate how much you can withdraw each year. This is the topic of much debate, but also because this can vary so significantly.
That’s why in Step 4, it’s important to put this to the test.
Step 4: Stress-Test Your Current Retirement Savings Plan
Determine the Income Gap
Subtract your expected annual retirement income (from Social Security, pensions, other income, etc.) from your projected retirement expenses.
Once we know what expenses are projected to be, we can run through a Monte Carlo simulation to give us a wide range of possibilities in retirement.
Running a Monte Carlo Simulation to Test This
A Monte Carlo simulation is a statistical technique that uses random sampling to model and predict a range of possible outcomes in uncertain situations, such as investment returns or financial planning.
It runs thousands of scenarios to estimate the probability of different results, helping assess risk and decision-making under uncertainty.
It’s worth noting that this is a probability tool. It should be understood that there are so many scenarios that could play out, so make sure you understand this is by no means a guarantee.
It can help give us a high level estimate if you have saved enough.
Our hypothetical example is to show the different factors within our hypothetical client’s control. Based on his goals, we can test the likelihood of success.
You’ll see 3 different figures, which represent a 30 year period of an above average market, an average market return, and a below average market return. We can’t begin to predict what the next 3 decades will look like, which is why it’s important to adjust and monitor your plan on a regular basis.
The 30 year projection is meant to give us a snapshot in time today.
By using completely random sampling and running this over a thousand different scenarios, we can plan for both favorable and unfavorable conditions.
For this example, we have 4 factors we can look to change, and we’ll look to see how the probability of success changes based on different factors.
Background
For our sample client, here is a high-level breakdown:
- Age 60 Male
- Retiring at 65
- Making $150k/year
- Social Security at A67 (FRA)
- 401(k) balance of $710,000
- Brokerage account value of $105,000
- Investments grow at a flat 6.99%
- Inflation grows at a flat 2.57%
- Projected Starting Retirement Expenses of $80k/year (indexed for inflation)
- Life Expectancy to A95
While there are numerous other factors to consider before making official recommendations, we can show what the likelihood of success could be, and how changing some of these factors can result in changing probabilities of success.
Base Plan
Based on these factors, when we run our Monte Carlo simulation, we see the following:
When running the simulation, assuming a positive or standard market return, Donald Donaldson would likely pass away without running out of money. But in a down market, there would be a possibility of running out of money.
Running through the range of possibilities on an asset map, it looks like the following:
If you’re at the casino and you have a 67% probability of success, you should play that hand. But if we’re referring to your retirement, adjustments should be made to increase that probability.
Let’s change some of these variables and see how it plays out.
Expenses
If we instead change the dynamics a little bit, we can see the probability arise. By cutting back retirement expenses to $74k/year as opposed to $80k/year, you can see a significant bump up in the probability of success:
By scaling back expenses by $500/m, we can increase the probability of success to over 80%.
This can provide a much needed buffer and allow even the down market scenarios to show a balance remaining at Donald’s death at age 95:
While this is a way to boost the probability of success, it’s certainly not the only way.
Working Longer
Let’s assume Donald enjoys his job and is willing to hang on for a couple more years. Rather than sacrificing retirement income, he can consider working just a little while longer.
If we adjust the expenses back to $80k/year, but instead say that he’ll retire at 67 rather than 65, he again increases the probability of success over 80%:
By taking some of the stress off of his portfolio in the years between 65 and 67, he puts himself in position to withstand the possibility of down market returns:
Social Security Timing
There is one other factor Donald can consider, which is to delay Social Security.
While this decision is certain to be debated, it’s important to at least run the figures to determine if it makes a noticeable difference.
If Donald decides to instead delay collecting from 67 to 70, we can see the difference:
As we can see, it makes a difference in a positive direction, but marginally at best. While this may help, it may not be the case to determine if you have saved enough or not.
This also plays out via the asset map, but in a negative market return environment, this can be a risky plan:
Delaying Social Security can present pros & cons, but this decision is most impactful based on what is happening to Donald’s portfolio while delaying.
If there is a market run-up in his early years, the decision to delay can be a very beneficial one. But in the event of a market downturn while Donald is delaying, he could be putting tremendous stress on his retirement assets if he’s withdrawing his full expenses.
We’ll cover this in more detail in our discussion on a Social Security Bridge strategy, but just note this another decision that Donald will be subjected to.
Decisions Within Donald’s Control
These three factors are really what are directly within Donald’s control. The factors outside of his control as we discussed include market returns, inflation, and his life expectancy.
We can run all different types of scenarios, but we must also remember that while these represent 1000 different scenarios, 1 scenario will play out. That is the real-life example. Projections are most certainly helpful, but continued adjustments and attention to your plan will ensure that you’re able to achieve the goals you set out.
As we can see, the answer of if you have saved enough will vary based on your lifestyle.
Step 5: Evaluate Your Current Savings and Investment Strategy
Depending on where you find yourself and your current retirement (or pre-retirement) journey, your savings can help augment the probability of success.
It shouldn’t be a surprise to state that the more you save, the greater the higher the likelihood of success. But how much you’re saving and what investments you’re saving into will be major determining factors for this.
This is where it’s incumbent on you to determine if you have saved enough. For many, this could be something you do on your own. But my team and I also help with this. If you’re hoping for a successful outcome, you need to give your plan time and attention.
By doing so properly, you can focus on what really matters in your retirement – finding your meaning and purpose in your golden years without worry.