If you're suddenly obsessed with thoughts of quitting the rat race and playing golf all day, it's probably a good sign that you're mentally ready to retire. But are you financially ready? That moment may be tougher to pinpoint.
Here are some ways to tell if you are financially prepared to take the leap:
Guaranteed income streams. Find out when you are fully vested in your pension and 401(k) and at what age you can begin making withdrawals. In some cases, spouses can also qualify for pension distributions. "You want some kind of income that's predictable that's not subject to investment fluctuations," says Anna Rappaport, a fellow of the Society of Actuaries. "Then you can afford to take more risk with the rest of the portfolio."
Almost all workers can begin collecting Social Security at age 62, but delaying claiming up until age 70 will net you between 7 and 8 percent higher checks for each year you delay. "You want to be looking at those annual benefit statements that you get to make sure your benefits have been appropriately credited," says Brent Neiser, a certified financial planner and a director of the National Endowment for Financial Education.
Liquid assets. Workers without a traditional pension need to have cash that can be spent immediately upon retirement. "If you have liquid assets, you may be able to retire now," says Michael Kresh, president and chief investment officer of M. D. Kresh Financial Services in Islandia, N.Y.
However, workers without readily available cash should consider delaying retirement. "If you need to sell some stocks [to produce income to live off of], you cannot retire right now," says Ray Lucia, a certified financial planner and president and founder of Raymond J. Lucia Cos. Inc. in San Diego. "You should not ever sell into a declining market."
Ideally, you should have funds to pay for about three years' worth of expenses accessible in relatively safe accounts where there is little risk of losing principal, according to Jim Barnash, a certified financial planner in Northbrook, Ill. This should allow you to ride out market volatility without having to sell investments into a down market at a loss. "Historically, we have never had a period of more than three years' worth of down markets," says Barnash. He also recommends that you keep about 25 percent of your portfolio aggressively invested to fight inflation and the rest invested according to your risk tolerance.
A retirement distribution strategy. In order to retire comfortably, you'll need to amass an ample sum of money so that withdrawing 4 to 5 percent each year will be enough to cover all your bills, according to Lucia. You can also try to minimize taxes by withdrawing larger sums from tax-deferred accounts in years when you are in a lower tax bracket.
It helps if you can wait for a market upswing to start drawing down your nest egg. "If you have to tap into your retirement investments in an economic environment like we are having right now, it certainly is going to put a lot more stress on your financial resources and can significantly reduce the number of years that you will have funds available to live off of in retirement," says Barnash. "If you can, try to hold off until the markets are steady or on an upswing to be able to retire with the best possible advantages of making it through the long run."
Health insurance. Most companies no longer offer subsidized health insurance to retirees. If you retire prior to age 65, when Medicare eligibility kicks in, you'll need to find another source of health insurance, be it through a spouse, COBRA coverage through your former employer where you pick up the full and often pricey premium, or an even more expensive policy purchased on the open market. And even once people qualify for Medicare, various studies have found, couples will need between $205,932 and $225,000 to pay for out-of-pocket expenses like premiums, deductibles, and copays.
A backup plan. Unforeseen circumstances often complicate retirement plans. You could be laid off, develop a health problem, or have to care for a frail relative. "Don't fall in love with a date," advises Barnash. "Don't fall in love with a certain lifestyle." Maintaining good health and insurance for disability and long-term care can help mitigate some of these risks. But as a last resort, you may have to downsize your standard of living. "I would recommend that you think about the minimum that you really need to live on and be comfortable—the cheapest house and car that you would be comfortable in," says Rappaport. "Budget for the minimum standard of income at which you would be happy."
Kresh recommends developing a "two-sided budget": On one side, you list fixed basic expenses like food and housing costs and on the other, discretionary spending like entertainment and vacations. Then you can cut back on the latter column in tighter years.
A new job waiting in the wings. Working just one extra year gives your retirement savings more time to accrue, lets you delay tapping your nest egg, shortens the period your savings will need to last, and allows you to get higher Social Security checks for life. And many jobs also provide valuable health insurance.
"In general, delaying retirement is always a good thing financially, but it's not always a good thing emotionally," says Kresh, who recently had a client who grew tired of playing golf four times a week after retiring. "When you're accustomed to working all the time, you have a lot of time to fill in retirement." Kresh thinks that most baby boomers should consider not retiring until age 70 for the best results.
Of course, not all employers covet older workers, who are typically more experienced but also more expensive and prone to health problems than their younger counterparts. "It's really important to keep your skills up to date in case you need to work longer," says Rappaport.
If you can find a job you enjoy, even one extra year of work can raise your standard of living throughout your retirement. Says Neiser, "Working longer is one of the best remedies for the retirement anxiety and fear that exists today."