How much money will you actually need in retirement? Figuring out your “magic number” can feel overwhelming.
There are all sorts of retirement tips out there. Traditionally, the rule of thumb was to save 70-80% of your current income for each year of retirement, but now some advisors say 90-100% is more realistic, due to increased travel spending and health care costs.
In reality, everyone’s circumstances are unique. The best thing you can do to plan your retirement savings is to create a retirement budget tailored to your personal needs.
So we’re walking you step by step through the process of how to create a personalized budget for your retirement.
Step 1: Review your expenses
Estimating your monthly expenses, both fixed and variable, is the first step in creating your retirement budget. Some expenses will decrease or disappear, while others will increase in retirement.
If you don’t already track your monthly spending, review your bank or credit card statement.
To create your budget, you can break out your spreadsheet skills or search for a premade template on the internet.
How will your spending change in the future? Here are the main budget categories to get you started:
- Housing: Will you downsize, pay off your mortgage or rent? Will you still pay property taxes and maintenance costs?
- Transportation: How much do you pay each month for gas, insurance and parking? Will you need the same number of cars in retirement? Do you pay to commute via train or bus every day? What will your transportation needs be during retirement?
- Dining out: Do you plan on eating out more, less or about the same after retiring?
- Cable/internet/phone: Will your needs change in retirement? Many people are cutting costs now by switching from cable TV to a streaming service.
- Clothing: Will you shop less when you’re no longer dressing for the office?
- Travel/hobbies: Will you be taking more trips? Investing in hobbies you always wanted to try? Spending on travel typically reaches its peak in the early years of retirement.
- Gifts: To what degree will you spoil your grandchildren?
- Charitable gifts: Will you give more to your favorite charities, or will you switch over to donating your time?
- Healthcare: This is one of the biggest expense categories for seniors, yet people drastically underestimate what they’ll spend. Remember, you can switch to Medicare at age 65, but it will not fully cover your medical expenses. Your health care costs will (unsurprisingly) increase as you age. Research premium costs and consider purchasing long-term care insurance.
- Savings: Will you continue to save money each month, or will you fully transition from saving to spending?
- Taxes: Will you be in a higher or lower tax bracket? Don’t automatically assume “lower.” If you’re no longer claiming exemptions for a mortgage or dependents this will raise your taxable income. Also, up to 85% of your social security can be taxed depending on your overall income.
Step 2: Review your sources of retirement income
Once you’ve calculated your expected annual expenses in retirement, take a look at how it matches up with your expected annual income.
You can use this compound interest calculator to estimate the growth of your retirement savings accounts 401(k)s, IRAs, etc. You should also include your expected social security amount, any rental income, and wages from part time work.
Tally your income sources in a spreadsheet.
To calculate your “magic number” for retirement savings, multiply your expected annual expenses by 25 – this assumes a yearly withdrawal rate of 4%, allowing your nest egg to last indefinitely. So if you plan to live on $40,000 a year, you should save $1 million by the time you retire.
Will you be able to afford your ideal lifestyle?
Step 3: Adjust your retirement budget as needed
If your nest egg falls short of your ideal budget, you may need to adjust your current spending habits in order to save more before retirement, or adjust your retirement lifestyle expectations.
Here are some ideas for saving money now and in retirement (while still having fun!):
- Cook delicious meals at home.
- Enjoy free concerts, art galleries and local events.
- Take advantage of senior discounts.
- Shop for gently used items instead of buying them brand new.
- Travel in the off season, travel domestically and purchase international tickets only when you find the best deals.
- Pay off debt now so you can save big on interest.
- Move to an area with a lower cost of living.
How much do you plan to save for retirement? Have you created a personalized retirement budget yet? Tell us in the comments.
Learn more about how to save at AAA.com/Financial.