Retiring in 2024? Make Sure You Can Answer These 3 Questions, First

Consider these key questions to determine if you’re financially prepared to retire. Deciding when to retire is one of the most important steps in anyone’s financial plan, and there are many factors that play a role in that decision. The best retirement plans quantify the amount of cash that will be flowing into a household and confirm that the income will be enough to satisfy all their expenses. By answering these three questions, you’ll be able to assess important cash flow concerns to figure out if you’re financially prepared to retire in the near future.

1. What are my monthly cash flow requirements?

Retirement planning is all about satisfying cash needs in the absence of earned income. You can’t make a confident decision about retirement without understanding your monthly and annual budget. It’s important to measure your sources and uses of cash flow at any point in your financial plan, but retirement is a unique scenario with limited margin for error. Housing, food, clothing, transportation, and other basic needs are obvious places to start the budgeting process. These take up the majority of most household expenditures, and they should be relatively easy to forecast based on your personal circumstances and some research on average household expenditures. Retirees also need to consider healthcare expenses, which can vary significantly from family to family. Insurance coverage also plays a major role, especially as medical issues become more numerous later in life. It’s also important to consider your lifestyle goals. If you want to spend your golden years traveling, enjoying nice meals out, or pursuing certain hobbies, then it’s going to cost money. Some people have to delay retirement to ensure that they’ll have the means to pay for lifestyle goals. When it comes to building a retirement plan, the budget process needs to consider expenditures above and beyond simple basic needs. Keep in mind that budgeting is an inexact science, like any forecasting effort. Unexpected events, both positive and negative, are a near certainty. To manage uncertainty, it’s important to develop a best guess, then build in some margin of safety. That way, you’re not just relying on everything to go smoothly for the plan to work.

2. How much Social Security income can I expect?

Social Security benefits are the most important source of retirement cash flows for most Americans. Many households have no other source of income once they’ve stopped working, and Social Security makes up the majority of cash inflows for even more retirees. As a result, a review of federal retirement benefits is an important step in every good retirement plan. The Social Security Administration (SSA) provides statements to everyone who’s worked and paid into the system, and that information is available through an online portal. That statement provides an estimate of future benefits, which is important for anyone approaching retirement. Importantly, the SSA portal also provides information on other programs that many people don’t even realize are available. These include disability and survivor benefits. For reference, the average monthly Social Security benefit is just over $1,800 per month right now. The maximum monthly benefit at full retirement age (FRA) is over $3,600. If you’re younger than FRA, which is currently 67 years old, then you’ll receive less monthly income by electing to take benefits early. Conversely, you can increase monthly retirement benefits by delaying retirement up to age 70.

3. How much can I expect from other sources of retirement income?

If you can’t comfortably cover your retirement goals with Social Security benefits, then you’ll have to turn to other resources that you’ve amassed independently. Some households have defined benefit pensions that will create consistent and reliable income every month. However, these are quickly becoming less common, especially among people employed by private companies. Most people planning to retire next year need to consider the assets that they’ve built, and how those might turn into income. The 4% Rule suggests that households can safely distribute 4% of the total initial value of investment accounts at the time they retired each year without running the risk of outliving their money. Low interest rates and yields in recent years, along with rising life expectancy, have led many financial advisors to revise the rule from 4% to 3%. Some of that pressure has been alleviated now that interest rates are higher, but it’s still something to keep in mind for retirement planning. The 4% Rule can be applied to investments held in brokerage and retirement accounts. For every $100,000 that’s saved in these accounts, it’s safe to plan for $4,000 in annual retirement income. It’s important to consider the effect on taxes, as well. Distributions from a traditional IRA or 401(k) are subject to ordinary income tax, while distributions from a brokerage account funded with after-tax dollars are subject to capital gains tax. There is no tax incurred on qualifying distributions from Roth IRAs, and withdrawals from health savings accounts can also be tax-free if they are applied to qualifying healthcare expenses. Real estate equity is another important asset class for many American families, but those savings are functionally illiquid for retirement planning purposes. The value of your home can be unlocked by either downsizing, then converting the proceeds to assets that follow the 4% Rule, or using a reverse mortgage. Downsizing is a popular strategy for many seniors, but it’s not practical for everyone. Reverse mortgages are an important source of cash for many families, but they do carry significant risks that need to be considered.