Retirement should be a life stage where people can live comfortably and enjoy themselves. You might think that all you need to do is save and invest your money, but even people who think they have enough to pay their expenses need to understand how to manage their retirement income to avoid outliving their savings. In other words, opening a retirement account isn’t enough.
Here at Addition Financial, we always want to help our valued members with money management, so they can achieve their financial goals. If you’re wondering how to prepare for retirement, we’re here to help. Here are seven strategies for managing money in retirement to make sure that your golden years are exactly what you want them to be.
How Much Money Do You Need to Save for Retirement?
Before we reveal our money management tips for retirement, let’s review an important topic. We’re often asked how much money our members need to retire. Retirement saving is one of the most common financial goals. To figure out how much you should save, you’ll need to calculate your retirement income. There are two formulas that may be useful:
- Multiply your income at retirement by 80%: This is a ratio that will allow you to maintain your lifestyle. That’s how much you’ll need annually, but you’ll also need to estimate your life expectancy. For example, if you expect to live about 15 years past retirement, you would take your annual income at retirement, multiply it by 80% and then multiply the answer by 15.
- Use your age and your income: One common formula says that if you retire at 67, you’ll need 10x your annual income saved to retire comfortably. That’s based on average life expectancies.
What we would add is that it’s important to take your family longevity and personal health history into consideration. A lot of people live into their 90s and beyond. If you’re in good health, then you may need more than 10x your salary saved to avoid outliving your retirement savings.
7 Money Management Strategies for a Comfortable Retirement
Managing your money after you retire is essential. Even if you’re someone who has prioritized retirement saving, you still need to be smart about personal finance and how you spend your money after you retire. Here are seven strategies to help you stretch your savings.
#1: Make a Retirement Budget
Our first tip is to make a retirement budget and revisit it as needed. Budgeting is something we recommend to everybody and at every income level. It’s easy for spending to get out of control if you’re not careful. In other words, budgeting is a crucial aspect of wealth management.
Your retirement budget should build from the amount of money you need to maintain your lifestyle each year. You’ll need to budget for everything from basic living expenses to discretionary spending. If your retirement plans include traveling, you’ll need to incorporate that spending into your budget to make sure you stay within your means.
#2: Create and Maintain an Emergency Fund
Next, we recommend creating and maintaining an emergency fund if you don’t already have one. Any significant, unexpected expense can wreak havoc on your budget, so it’s essential to have enough money in your fund to pay for a full year of living expenses.
We suggest choosing a high yield savings account or money market account. These accounts pay a higher dividend or interest rate than traditional savings accounts, so your money will always be working for you.
#3: Make All Mandatory Withdrawals on Time
One of the biggest risks to retirees is missing a Required Minimum Distribution from one of your retirement accounts. In most cases, you’ll be required to make RMDs starting at age 72. Specifically, the IRS rule says that your first RMD must be taken by:
April 1 of the year following the calendar year in which you reach age 72 (73 if you reach age 72 after Dec. 31).
In subsequent years, RMDs must be taken by December 31. The only exception is if you’re still working at age 72 and you have an employer-sponsored retirement plan that allows you to delay RMDs until after you retire.
Keep in mind that there are penalties if you fail to take your RMDs. If you withdraw less than required, you’ll be taxed 25% of the amount you failed to withdraw.
#4: Withdraw from Taxable Accounts First
You have some leeway in terms of where to take your retirement withdrawals provided you follow the RMD rules listed in the previous item. If you have both Roth accounts and traditional retirement accounts, then the decision becomes an important one.
You’ll be best served by taking the RMDs from your taxable accounts and leaving your Roth accounts alone, so your investments can continue to grow. By withdrawing from traditional accounts first, you’ll avoid that 25% tax penalty. You’ll need to pay taxes on your withdrawals, but you would anyway. If you can afford to do so, we recommend leaving your Roth accounts alone for as long as possible.
#5: Consider a Roth Conversion
Speaking of Roth accounts, did you know you can convert a traditional retirement account to a Roth account? Money in Roth accounts is contributed on a post-tax basis and withdrawals and earnings are not taxable. Even if your income is too high to qualify for a Roth IRA, you can take advantage of a so-called “back door Roth IRA” by moving money between accounts.
A Roth conversion involves withdrawing money from a traditional retirement account and putting it into a Roth account. You won’t avoid paying taxes on the money you withdraw, but you can minimize them by making the withdrawal in a year when your income is lower than expected. The tax rules around this type of conversion can be complex, so we recommend working with a financial advisor.
#5: Plan for Medical Expenses
Even with Medicare coverage and supplemental insurance, medical and prescription drug costs can mount quickly after you’re retired. We all experience increasing medical difficulties and risks as we age. It might surprise you to learn that the average couple retiring at age 65 will spend $315,000 on medical expenses throughout their retirement. That’s a lot of money, so you’ll need to plan accordingly.
The first step is incorporating medical expenses into your budget. You may want to set aside a percentage of your monthly income for medical savings. Those who retire early can continue to contribute to a Health Savings Account provided they’re not yet enrolled in Medicare. After you retire, the money in your HSA can continue to grow and may be withdrawn tax-free to pay for medical expenses.
#6: Continue to Invest Your Money
While you won’t be able to continue contributing to most retirement plans after you retire, that's not the case with a Roth IRA. In addition to making annual contributions there, we also recommend having a private investment account where you continue to invest your money and allow it to grow.
There’s no way to know just how much you’ll need to save for retirement. People sometimes outlive their life expectancy by a decade or more. Anything you can do to keep your money working for you will help in the event that happens.
#7: Make Money Management an Ongoing Priority
Our final strategy is to make money management and asset allocation an ongoing financial priority. A variety of factors, including inflation, illness and market performance can impact how much money you have. In some cases, you may need to revisit your budget to make sure you don’t outlive your savings.
Asset allocation means spreading your risk across multiple asset classes such as a mutual fund, stocks, bonds, ETFs and REITs. You should never have more than 10% of your investments in one asset. As you get older, you may want to invest more of your money in dividend stocks and other low-risk investments to protect your money.
How Often Should Retirees Review Their Financial Plans?
A big part of managing your money in retirement is staying on top of your finances. It’s for that reason that we recommend reviewing your financial plans once a year at minimum. You may need to review more frequently if your circumstances change or if economic conditions require you to revisit your budget.
It may be helpful to work with a financial professional to set yourself up for a comfortable retirement. A professional can help you create a working budget, review your asset allocation and risk preferences and figure out how to maintain a steady stream of income to sustain you for the rest of your life.
Get Retirement Planning Assistance from Addition Financial
Retirement planning should include detailed plans for financial management. The seven strategies we’ve listed here can help you do the best possible job of managing your finances in retirement and avoiding the risk of outliving your savings.
Do you need a hand with retirement planning? Addition Financial offers MEMBERS Financial Services to assist with money management, investment and retirement. Click here to learn more and schedule an appointment today.
Posted on Mar 18, 2024
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