What is Retirement Planning?

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Definition:

Retirement planning is the process of deciding on your goals for retirement and coming up with a course of action that will help you reach those goals — typically involving saving, investing, and providing for the possibility of needing long-term care.

🤔 Understanding retirement planning

Not everyone has the same goals for retirement. Some people want to travel extensively and see the world. Others want a more sedate experience, relaxing at home with friends and family. Regardless of what you plan to do in retirement, you’ll need some assets and a form of income. Retirement planning revolves around figuring out what you want to do during your retirement, determining the financial resources you’ll need to do those things, and deciding how you’ll acquire those resources. Retirement planning typically involves saving money, investing, and providing for the possibility that you may need long-term care in old age.

Example

You decide that when you retire, you want to take one international vacation and go on one road trip in the United States every year. To fund these trips and your regular living expenses, let’s say you’ll need to spend $50,000 each year. You expect to be retired for 20 years before you pass away, so you’ll need a total of $1 million to spend during your retirement. You come up with a plan to save money each year while you’re working, keeping it in retirement accounts and regular brokerage accounts. Over time, as you add money to the accounts, their balances rise.

As you near retirement age, you rebalance your investments, moving some of your money from riskier investments to more stable ones. By the time you reach your target retirement age, you have enough money to withdraw $50,000 each year for the next 20 years and can move forward with your retirement.

Takeaway

Retirement planning is like planting a tree…

If you want to grow a tree from a sapling, you can’t plant the sapling and expect it to grow overnight. You have to decide where to plant it, learn about caring for the tree, and put in the effort to keep it properly watered and fertilized for decades. If you follow your plan, after years of work, you should have a lovely tree that you raised yourself. In the same way, retirement planning can’t be done overnight. It takes a long time of careful planning and effort to grow a strong retirement that you can enjoy. As they say, the best time to plant a tree was 20 years ago. The second best time is now.

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What is retirement planning?

Retirement planning is the process of creating and following a course of action to help you prepare for your retirement. This includes estimating your income needs during retirement, deciding how much money you’d like to have saved, figuring out how you plan to save money, and following through on the plan.

Retirement planning often involves using special retirement accounts, like Individual Retirement Accounts (IRAs) and 401(k)s. You also have to account for things like pension and social security payments and new costs, such as end-of-life care.

Why is retirement planning important?

Retirement planning is an essential part of your financial life because most people need a plan if they want to be able to retire. Retirement means ending your working life and giving up your regular source of income because you won’t receive a paycheck. You’ll need alternative forms of income or a large nest egg to cover your living expenses.

Retirement planning also includes figuring out how you plan to spend your retirement. Without a plan, you’ll be retired, but unsure of what you want to do with all your new free time. Going into retirement with a plan helps you stay busy and make sure that you have sufficient financial resources for the things you want to do.

When should I start planning for retirement?

Retirement planning often relies on investing your money in stocks, bonds, and index funds. When investing, one of the most important factors in the growth of your investment is time. Generally, the longer that you leave your money invested, the more it has the opportunity to grow. All investments, of course, are subject to risk — even the loss of your initial investment.

Starting early means you’ll have the opportunity to invest more money. If you wait until later in life, you’ll have less of your career (and that means less future income) available to save. An early start also gives you more time to devise and refine your retirement plan. Plus, you’ll have more flexibility to change it if your goals change.

What are the stages of retirement planning?

If you’re working toward retirement, there are different things that you’ll naturally want to focus on based on where you are in your career and your life.

Young Adult

As a young adult just entering the workforce, your priority should be getting a handle on your financial situation. That includes building a budget, setting aside an emergency fund, and paying off any student loans or other debt you may have.

Once you’ve started establishing yourself in your career, you can begin thinking about retirement. Even if you don’t know your specific goals, you can take advantage of your employer’s retirement benefits, such as a 401(k) match. If your employer doesn’t offer a 401(k), or you want to save more, you can open an IRA.

Adulthood

After a few years, you should have a better idea of your retirement goals and more disposable income that you can direct toward retirement savings. A common rule of thumb is that 30–35 year olds should have retirement savings equal to their annual salary.

Adulthood is also the time when you’ll start making important, long-term life decisions. Things like whether you decide to have children and where you want to live will greatly impact your retirement plan.

Midlife

In the United States, personal income tends to peak during your career’s later years. That means you’ll be making more money during your midlife than as a young adult or an adult. So, you should have more income available to save during your midlife than you did before, giving you the chance to add to your nest egg.

As you age, you should get a better idea of your retirement goals. You might decide that you want to downsize your home or spend a large portion of each year traveling. As you finalize your plans, you can determine what resources you’ll need available in retirement.

Nearing Retirement

When you’re in the years leading up to retirement, you should take steps to ready yourself to leave the workforce. That usually means using your employer’s health benefits to their fullest before you have to change insurance plans. It also means figuring out how you’ll maximize your employer’s retirement benefits.

You also have to decide when to start receiving Social Security benefits. Deferring benefits increases your income from Social Security, but some people want to claim benefits early, so they have an immediate income source.

Retired

After you retire, you have to execute your retirement plan. That means limiting spending to the amount for which you planned. You might also have to adjust your plan based on your portfolio’s performance. Other important decisions, such as whether to withdraw from your 401(k) or IRA — or whether to prioritize Roth or traditional retirement account withdrawals — also come into play.

Your retirement is also a good time to finalize your plans for after you pass away. If you expect to leave assets behind, you should speak to your heirs and make sure you’ve set forth your wishes in a will.

What are the aspects of retirement planning?

Retiring affects almost every aspect of your life, so your retirement plan needs to include many aspects of your life, from where you live to how you structure your will.

Choosing a Home

Where you live can have a significant impact on your ability to retire and how you structure your retirement plan. Someone who lives in a large home with high property tax payments will need more income than someone who lives in a more modest dwelling. If you own your home, you won’t need income for mortgage payments. If you’re renting or still paying a mortgage when you retire, your income needs will increase.

Where you live also impacts the activities available to you, which makes choosing where to live during your retirement a major part of planning.

Managing Taxes

Retirement accounts like IRAs and 401(k)s usually offer tax benefits if you use them for your retirement savings. Managing those accounts and how you make use of their tax benefits is an important part of your retirement plan.

Managing withdrawals and contributions to your tax-advantaged accounts will help you reduce your tax liability and keep more of your money invested in your portfolio.

Estate Planning

Retirement usually comes near the end of your life, making estate planning a natural part of retirement planning. If you have enough assets to retire, there is a good chance that you’ll have assets to pass to your heirs when you die. Even if you don’t expect to leave money behind, you’ll want to make your wishes for a funeral and medical care known.

What is a retirement plan advisor?

A retirement plan advisor is a financial professional who specializes in helping people plan for and manage their retirement. They can help guide you as you figure out your retirement goals and help you create a plan that will let you meet those goals.

You can work with an advisor to create and follow your plan, including choosing how to allocate your retirement savings and investments. They can also advise you on how to manage your money during retirement to make sure it lasts for the whole of your retirement.

How much will I need to retire?

There is no one answer to the amount of money that you need to retire because it is mostly a function of how much you plan to spend. You need enough money that you can meet your financial needs without running out of funds.

One popular rule of thumb comes from the Trinity Study. The study examined how much you can withdraw from your portfolio each year without running out of cash during retirement. The study found that a person who splits their portfolio evenly between stocks and bonds can withdraw 4% of their portfolio’s initial balance every year and still have money left over after 30 years.

Many advisors use the 4% rule as a rule of thumb. Once you’ve saved enough that 4% of your portfolio covers your annual income needs, you’ve can finance a 30-year retirement.

While future market performance can’t be guaranteed, aiming to save enough that 4% of your portfolio covers your income needs is a good place to start.

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