As Will Rogers said, “A vision, without a plan, is just a hallucination.” In other words, goals are important to establish and necessary to spell out in detail in order to reach them or they will remain an illusion. Goal setting is a critical step in retirement planning. In order to set any goal, first it must be quantified then a time frame needs to be determined. To illustrate retirement goal setting, establishing some assumptions will be helpful.
Let’s take Sarah.: she's 30-years-old, single, earns $50,000 gross a year, lives within her means, has a car loan of $12,750, no student loans, no credit card debt, and is contributing 5% into a 401(k) with an approximate value of $35,000 (her employer matches 5%).
She has $10,000 for her short-term emergency fund and wants to start planning for her retirement. She does not know when she will retire but is thinking 65 because many family members have retired at this age. Where should she begin?
As mentioned, she needs to define her retirement goal by determining how much money she needs at retirement. There are several ways to project retirement income, which I will address below. Once this is accomplished, she will then establish a time frame by deciding what age to retire. The factors below are essential to determining retirement goals.
- Retirement Age - Americans generally retire at age 65 and some are now considering retirement at 67. Why these ages? At age 65, in the past was when social security eligibility began as well as Medicare eligibility. If you were born after 1960, full retirement age (FRA - the date you qualify for 100% of your benefit) is age 67 and Medicare eligibility remains at age 65.
- Retirement income - Most individuals seek to save enough money to enable themselves to maintain the lifestyle they have become accustom to during their working years. Experts estimate you will need 70%-80% of your current gross income when you stop working. For example, using 80% of her annual gross of $50,000, Sarah should plan to spend at least $40,000 every year of her retirement. As Sarah’s income increases, she will need to revisit her goals annually and adjust as necessary. A financial checkup is needed annually just like a medical physical. So, I encourage all my clients to revisit their goals annually.
- Inflation is often considered the thief of purchasing power. Put differently, it is the rise in cost of goods and services over time. Inflation impacts financial planning in several ways: it impacts future cost of living; effects real returns earned on investments; and influences planning for future retirement goals.
- Longevity also has an impact when planning for retirement. How long will you live in retirement? The data below, published by the Social Security Administration shows how much longer individuals are living and are expected to live in the future. It is necessary to project your time horizon for retirement withdrawals and to consider your personal and family circumstances. For example, “good genetics” and longevity in your family. Setting a time horizon in planning how long you will live in your retirement is typically done by making a reasonably conservative estimate of life expectancy and adding a few extra years for padding.
Average Life expectancy at age 65
Chart: Social Security Administration, Period Life Table, 2015 (published in 2018)
Giving these facts and Sarah’s assumption, now her retirement goals can be tackled. Sarah’s retirement income goal now can be quantified ($40,000 in today’s dollars) and a time frame established (age 65 – although she may retire earlier if possible). At age 30, she has 35 year to save for her income replacement goal. Time is Sarah’s friend!
Longevity runs in Sarah’s family and she is comfortable using age 95 as her life expectancy assumption. Therefore, she can expect to live 30 years in retirement. Now that she has established her retirement goal, the next question is, how will she successfully fund her retirement? In order to answer this question, a better understanding is needed of Sarah’s current expenses and how much she can save. The scope of this article is to address the importance of goal setting, however, to determine her success in saving for retirement requires more details. I will address this in another article, so stay tuned for how Sarah will successfully save for her retirement.
Once we know her expenses and savings capacity, Sarah’s saving strategies are the next key element to securing her retirement goal. Sarah should consider her:
- Short-term goals (less than three years) – These goals may be narrow in scope, with a limited time horizon. These goals can include emergency savings, purchasing household furniture, minor home improvements or a vacation.
- Mid-term goals (three years to 10 years) - These goals are usually those which you need time to accumulate savings, such as a down payment for a house or car.
- Long-term goals (more than 10 years) – The number one long-term goal is to financially secure retirement. Other long-term goals may be paying for college education for children and the purchase of a second home.
Each of these three goals would be broken down similarly to Sarah’s retirement goal by quantifying them and setting a time frame. The timetable for your financial goals will evolve over time, so keep in mind that no goal is short-, medium- or long-term forever (they are always fluid) and it is a good idea to review them annually. The takeaway from this information is how to set goals and the various factors you need to clearly detail your retirement goal. Keep in mind, knowledge is power and seeking advice from a financial professional to obtain guidance will lead to well defined goals and better financial decisions. I will end with an Old Proverb, “A vision without a [goal/] plan is just a dream. A plan without a vision is just drudgery. But a vision with a plan can change the [your financial] world.”
The hypothetical example is for illustrative purposes only and should not be deemed a representation of past or future results. This does not represent any specific product [and/or service].