“It all comes down to understanding your standard of living.” I can’t tell you how often those words have come out of my mouth when planning with a family. But what is a standard of living, and why does it matter?
Here at FEG, when we talk about standard of living, it is simply how much you need in retirement to maintain your current standard of living. Knowing that number will tell us whether delaying retirement is the best option or if it is okay to retire now. Knowing that number can be difficult, so we prepare our families years in advance to ensure we have an accurate number and the plan is as accurate as possible.
When looking at this with families, we consider all your monthly bills, payments, vacations, and eating out. An easy rule of thumb is if you spend money on it now and plan to continue spending on it in retirement, it belongs in the standard of living calculation. The biggest determinant of whether a plan will be successful or fail is the amount of money a family needs each month to maintain their desired lifestyle.
You have probably heard something along the lines of, “You will need to replace 70% of your current income in retirement to give you what you need in retirement.” That is not necessarily true, and we do not look at it that way. We want to replace 100% of your standard of living. If you have made $150,000 your whole life and you live off $75,000, that is only 50% of your income. So, hear me on this: we want to replace your standard of living, not a percentage of your income.
How will I know if I have enough? Many factors go into this, but we suggest a drawdown rate of 3.5%-4%, especially if you are a younger retiree. If you had $1 million, that would give you $35,000 to $40,000 a year to help supplement your income. If you read this and think, “I need $75,000 a year to maintain my standard of living; that is not enough,” you are not alone. For many, Social Security takes care of sometimes up to half of what they need each month. Delaying retirement by just one or two years can have a massive impact on whether the plan is sustainable or not.
So, leading up to this point, what can you do? As you are in the accumulation or preservation phase, you will want to start thinking about your standard of living. Do you plan on having a mortgage in retirement? Do you plan always to have a car payment? Do you plan on continuing to go on that vacation every year? If so, start thinking about what that looks like in retirement. Start thinking about whether your current savings rate matches your desired lifestyle. Understanding your standard of living creates confidence moving into retirement.
Financial Enhancement Group is an SEC Registered Investment Advisor.