Many people think that spending on healthcare in retirement is their biggest concern. That's because medical costs are so unpredictable. We don't know if we're going to be struck by an unknown illness or condition. Furthermore, the cost of healthcare has increased at a much greater rate than inflation. Something that happens in the future may have a much larger financial impact than we plan for.

But, it turns out that housing and transportation costs are likely to be greater costs than healthcare over your retirement years. What's different about these costs is that we don't think of them as unpredictable. Generally, rents/mortgages and automobile costs are expenses that we have managed for years and years before retirement. They are not likely to unexpectedly change (upwards) forcing us to make a dramatic withdrawal from our savings.

Just because healthcare may not be our biggest expense in retirement doesn't mean you shouldn't prepare for healthcare costs. Health insurance premiums are something we understand as predictable. While they are likely to continue increasing faster than inflation, we can project a rate of increase with reasonable expectations. Same with co-pays, co-insurance, and deductibles.

With these expenses identified, we are left to consider the most obvious unpredictable expense, long term care. These expenses are not generally covered under health insurance plans. These can impose a financial burden for ourselves and our families if they persist over the long term, like the rest of our life. I bring attention to this for one important reason. We can take the time to factor these type of expenses in our planning and therefore consider how these expenses could be managed. I do this as part of my financial planning for clients. We should all spend some time and effort planning for this. Why not address this biggest of concerns in retirement.

If you are close to retirement (or in retirement) you've probably thought about how much you can spend in retirement. And not run out of money! There are a lot of retirement calculators out there that invite you to plug in some numbers and out pops a graph along with an answer. There are two problems with the majority of these calculators. First, they usually don't factor in social security, pension, or annuity income streams. The second is that they ask you to specify your projected expenses, but only in a coarse way. There's no capability to introduce major expenses at some point in the future, e.g. healthcare or long term care expenses. They also don't deal with mortgage expenses that may end, or moving to a new retirement location. They don't even manage to consider that you may have meaningful equity in the house. There are many other deficiencies, but the above is sufficient to make us wary of the results.

The topic I want to direct your attention to is the matter of spending budgets in retirement. The typical calculators direct us to input our investment account information and declare our expense budget. The output from these calculators shows us how much money will remain in the investment accounts at the end of our projected lives (another input parameter). This is incomplete and a bit backwards. What we really need to do is to identify all of our income streams and investment accounts, accurately define our expenses for housing and medical insurance, and project healthcare and/or long term care expenses in the future. Then, have the program determine our discretionary spending budget for our projected lives. We can then best consider how to use our assets to meet a standard of living within our means.

One way to rephrase the above is this: Don't tell me what your expenses are, let's instead determine what the discretionary expense level is that you can afford and not run out of money. When we know that we can consider 1) how do we want to spend our discretionary budget, 2) would we want to vary our standard of living while in retirement, 3) finally, that we have prepared for potentially significant expenses later in our retirement (before we spend all of our savings).

Being able to identify in advance the guidelines for spending over our life in retirement is the right way to proceed. This method helps us understand how and when to use our retirement savings to meet a standard of living we can afford. We should not rely on overly simplistic calculators, or rules of thumb such as spend 4% per year of our investment savings, and expect these to adequately prepare us to determine how much we can spend in retirement. One final note, you don't need an expensive financial plan to determine these guidelines. Contact me to learn more.