Much has been written
describing rules of thumb for estimating living expenses during
retirement. If you are
close to retirement, you may hear suggestions that your retirement
expenses will be only 70%-90% of your pre-retirement expenses. While this may be possible,
the accuracy of this estimate is very important to your financial
well-being, and we recommend approaching it in a more systematic
way. Even if you are
already retired, the calculation is not as simple as projecting your
current expense level forward.
It may be useful to think of retirement years as
being made up of three stages: early, middle, and late, with each
stage having unique and somewhat typical expenses
You may need more money in the early years of retirement.
Typically, newly retired persons spend more money than those
that have been retired for a few years due to travel, recreation, or
care for elderly parents.
The second and usually longest phase of retirement is a
time in which you (and your spouse) have "settled down."
During these years, you may consider issues such as
relocation and decreasing your spending.
Budgeting becomes more important.
Medical expenses can be quite large.
Underestimating your expenses in this third phase of
retirement is a common mistake.
For any stage during retirement, or just prior to
retirement, we advocate beginning with an estimate that equals 100%
of your current expenses and then specifically adjusting it only for
those major items that you know will change. These major items will
typically include savings from the paying down of a mortgage or no
longer being responsible for the college education of children or
grandchildren. On the
other side, you should factor in any major additional expense such
as the purchase and maintenance of a second home, and so on. Assuming that you are good
health now, the expected need for healthcare or the possible
need for long-term institutional care is particularly hard to
forecast – we advocate including a specific probability factor for
this contingency. Some
of this risk can obviously be controlled and budgeted for through
supplemental health insurance or by entering a continuing
care facility. Long-term care
insurance, unless purchased during pre-retirement years, is
generally not available at an affordable price after you have
reached the middle years of your retirement.
See Develop a Spending Plan
for examples of how to be more specific about estimating your