Many people believe they will spend less money in retirement than they do right now. But this is not always the case. Sometimes the opposite is true.
It is easy to see why one might think they could get by spending less. There is no more commuting or eating out during the work week. And retirees no long need to maintain an expensive professional wardrobe or to buy tools or required professional education. But many people fail to plan for the new expenses that take their place. Here are some reasons you may not spend less money in retirement, and how you can plan for these expenses.
How long will you live? According to the World Bank, the average life expectancy in the U.S. in 1960 was 69.8 years. Today, it is 78.4 years, and it is expected to increase in the coming decades. It is not unreasonable to expect to live into your 80's. You will feel the financial affect of living longer in two major areas: Inflation and health care.
Inflation. Inflation is built into our economy and it is here to stay. Inflation will most likely be a major factor in your retirement spending if you live longer than 20 years after you retire, but you may feel the impact within 5 to 10 years.
Health care. Health care generally becomes more expensive as we age. Part of the reason is health care premiums, which generally increase each year, even after you sign up for Medicare. You may also use the health care system more as you develop health problems and face an out-of-pocket cost each time.
How will you spend your time? Increased spending isn't limited to longevity. You also need to consider what you will do with your time. Many retirees’ plans center on traveling, working on a favorite hobby, and other goals. How you fill your hours after you leave the work force can have a major impact on your spending.
What you can do to better prepare for retirement.
1. Track your income and expenses. The most important step you can take right now is to understand your income and expenses. An easy way to do this is to use free money management software, which will make it easy to visualize what you have coming in and going out. Use this exercise to create a budget to help plan your retirement.
2. Reduce fixed expenses as much as possible. It doesn't matter if you make a million dollars a year if you have a million dollars in expenses. Reducing your fixed expenses will go a long way toward extending your cash flow. As you get closer to retirement age, you should work on eliminating or reducing as many fixed expenses as you can, specifically those related to debt. You don't want to enter retirement with a mortgage, home equity loan, car payment, or credit card bills.
3. Take care of yourself. Your health will be your greatest asset as you age. The better you take care of yourself now, the more likely you will be healthy in retirement. Exercise, get annual checkups, and practice preventive health measures.
4. Balance your portfolio. Decreased portfolio risk becomes more important as we age. You want to continue generating income, but you don't want to leave yourself open to a stock market crash or other risk. Meet with a financial planner to help create a balanced portfolio that will most likely beat inflation, but not expose you to too much risk.
[See How to Retire a Millionaire.]
5. Be realistic in your expectations. Retirement doesn't mean quitting work one day and living in the lap of luxury. Most retirees won't be able to drop everything and go on a cruise around the world or buy a vacation home. But that doesn't mean you can't enjoy yourself. The key is to be realistic in your expectations. Determine how much your budget can handle, and incorporate that into your retirement plans.