The "secret" to retirement is pretty simple - steady investment over a long period of time, followed by living a retirement lifestyle that matches the savings you accumulate. In reality, however, most folks get to retirement with some money, but not enough to cover all the things they'd like to do. So the management of their money - making sure it covers their needs and that it lasts the rest of their lives - is a key element of their retirement.

The second key element of retirement is happiness. The whole point of retirement by choice is the ability to live your life doing what you want - when you want. Retirement planning is more than financial planning. It includes planning activities that you will pursue during retirement - to maintain your health, to keep your mind active, to reach new accomplishments, to enjoy new experiences, and simply to enjoy yourself.

Definition Income Expenses Activities

Definition

The ideal retirement situation is one where the retiree has accumulated enough money so that at retirement the money will support the retiree's standard of living indefinitely (or at least to an age that the retiree might be expected to reach). The choice of leaving money behind for family, or of consuming all assets by the time of death is one of the decisions a retiree has to make as part of managing their assets during retirement and can drastically affect the standard of living that the retiree can enjoy.

Most Americans don't reach retirement under this ideal setting and many find it necessary to reduce their standard of living, to continue working to provide income to supplement their savings. This may be part time, or full time, depending on the particular needs of the retiree.

Nonetheless, we still talk of a person as in 'retirement' once they have made the transition from a primary occupation, supplemental work not withstanding.

Income

• Personal Savings
• Company pension plans
• Employment
• US Government

A majority of families continue depend on Social Security and Medicare to support them during retirement, although in recent years there have been sharp increases in the number of people actively saving for retirement and in the number of families who have access to pension funds. With Social Security payments on the order of $1K per person, a couple that depends solely on Social Security will barely be able to make ends meet.

For folks who have managed to generate additional wealth (savings and/or pensions), the general strategy is to invest their money so that it produces income throughout retirement. Surprisingly large numbers of people simply park their money into savings accounts or purchase CD's. The low interest (3%-5%) is offset by the absolute security of the strategy. However these rates barely keep up with inflation. Unless the retiree has a fairly large net worth at retirement, dependence on low interest rates often results in the retiree depleting their funds well before the end of retirement.

If a family were to need $50K per year during retirement, a net worth of $1M invested at 5% would provide the required income. However, at only 3% interest even a $1M would fall short of their needs. It is typical to hear investment planners suggest a net worth between $1M and $2M as the net worth a family should have for a comfortable retirement.

However, the majority of Americans retire with much less than this. In such cases they either match their lifestyle to their income or supplement their income through part-time work.

A common retirement strategy is to invest personal wealth in areas which can generate 6%-10% returns. These involve risk (much lower returns, or even loss of principal) but offer the opportunity to provide enough interest income so that the retirees do not have to consume their principal - providing the possibility of income regardless of how long they might live. To offset risk, virtually all financial planners recommend the use of diversification - pursuing several different investments so that if any one goes badly the retiree's financial status is not wounded beyond recovery.

There are investments which have the potential for higher returns (>10%) but generally such investments carry proportionately higher risks and are considered inappropriate for retirees because retirees have little or no opportunity to recover once their wealth is gone. Returning to the work force permanently is the usual recourse in such cases but there is usually too little time left for the retiree to rebuild enough wealth to retire again.

The US government, using money from taxpayers, provides two basic sources of retirement income for all citizens - Social Security and Medicare.

Social Security is a payment sent directly to each citizen. It's amount depends more or less on the amount of taxes that you've paid in during your lifetime. Most folks can expect to receive a check that ranges from $800 to $1500 per month. Both husbands and wives receive checks but the amounts may be different depending on the taxes paid by each person during their working careers.

If a retiree reached age 65 on a wage of only $1500 per month, then Social Security alone might be enough to maintain the same (low) standard of living. However most Americans reach retirement having earned much more than that. Retirees with a pre-retirement salary of $5K-$10K per month will find Social Security to be totally inadequate to maintain the pre-retirement standard of living and may need several thousand dollars per month of additional income to sustain an acceptable standard of living.

The Social Security Administration can provide you with an accurate estimate of the payment that you will receive.

Payments can begin as early as age 62 but choosing to start payments later in life will result in larger payments. Later in this site we will discuss which option provides the greater benefit to a retiree. The answer is not the same for all retirees and depends on the age to which the retiree will live and on the amount of supplemental income (wages) that the retiree generates.

Medicare is a government-funded medical insurance program. It is available to Americans at age 65 and is typically the primary source of medical insurance for retirees (replacing the insurance policies they held will working for companies during pre-retirement).

Medicare does not cover all possible medical expenses and many retirees find it appropriate to purchase supplemental insurance which will cover those expenses not covered by Medicare. Supplemental insurance programs can cost from $100-$500 per month.

Persons who retire before Medicare is available (age 65) must locate their own insurance programs and often pay $500-$1000 per person for coverage.

Expenses

That is why retirement planning and investing, started at an early age, are recommended by all financial planners. Retirement planning is all about ensuring that the income available to you during retirement is adequate for the lifestyle you plan to live.

You may have heard rules of thumb about how much money is needed during retirement. Estimates vary, but 75% of pre-retirement income is often bandied about. While the estimates are useful for talking purposes a potential retiree cannot use such estimates for accurate retirement planning. Some folks may be able to retire on a fraction (as little as 50% of their pre-retirement income), but a lot more folks have expenses which do not change after retirement.

In the cases where post-retirement expenses are less than pre-retirement expenses, it is usually the case that the retirees have taken some very specific actions to eliminate expense, such as:

• Paying off debts (mortgage, loans, etc.)
• Moving to states with lower costs of living (no income tax, reduced food prices, lower property taxes, etc.)

Generally, stopping work does not, all by itself, significantly change a person's expenses. Yes, there are work expenses which go away, but the impact is usually not a 25% reduction as might be inferred from the rule of thumb mentioned above. Major changes in expenses come as a result of an action taken or culminating by the time that retirement is reached. The rules of thumb are useful for discussion purposes only and should not be used for detailed retirement planning.

A retirement expense model is covered in more detail elsewhere in this site

Activities

However, hardly any retiree does 'nothing'. One of the most common remarks you'll hear from retirees is that they are very busy and simply don't have the free time available that they imagined they would have.

While retirees may actually do very little in the early months of retirement - as close to nothing as they will ever do - most quickly fill up their free time with activities that they like to do. Surprisingly, retirees often find themselves working or playing at tasks for which they had absolutely no plans. Other retirees, however, have long since made lists of the things they want to do and fill their time with pre-determined activities that they've always wanted to spend more time at.

The common denominator is that retirees usually find themselves with more things to do than they have time available to cover. As the quote goes 'Only boring people get bored'.