Retirement Planning for Beginners: Part One

This week Money Mondays is going to last for three days:  Retirement Planning for Beginners in three steps.  I'm pleased to publish a guest post series by reader and frequent comment contributor, D. G. Pratt.  DGP (as he is known in the comments section) retired over a decade ago at the age of 45, so his retirement strategy has been well tested, surviving not one but two nasty bear markets.  The first step, the dreaded B-word.

Step 1: The Budget

Many people wonder, “How much do I need to retire?” but haven’t a clue how to figure it out.  If they read books on the subject, or listen to the “professionals,” they get showered with misinformation, such as, “you need 80% of your pre-retirement income in retirement,” and similar nonsense.  The goal of this series is to demystify the process of determining how much is enough. 

You can’t know how much it will take to generate the income you need until you know how much you will be spending.  Therefore, you need to create a retirement budget.  If you are one of the rare people who already uses a detailed budget you can adapt it for this purpose by subtracting out the categories that will become obsolete when you retire.  [Plan to pay off your mortgage?  Then you don’t need to budget for a mortgage payment, but you do need to make line items for property taxes and homeowner’s insurance if those are currently included in your mortgage payment.  Do you have children?  Your expenses ought to drop when they are through college and emancipated.]

How do you make a budget?  Make a list on a piece of paper, or spreadsheet, of all the things you can think of that you spend money on.  Examples might include food and sundries, gasoline, electricity, telephone & iternet, water, property taxes, health insurance, gifts and donations, car license, and so on.  Be sure to include a category called miscellaneous for those things you forgot, like postage or the fee you pay to renew your driver’s license.  You might want to look at a checkbook register or credit card statement to get an idea of what you spend money on.  Be sure to include a hobby or recreation category; many people will want to include one called travel.

Now look at the list.  Did you remember to include a line for car maintenance if you plan to keep a car (and who doesn’t?)  How about car replacement, since you will need to buy a new one someday; this is the cost of a new (or used) car, less the amount it will be worth (if anything) when you sell it, divided by the number of years you expect to keep it.  Do you have an income tax line?  You can estimate your future income taxes by assuming that your entire budget will be your future income.  Do you have house maintenance?  How about dental or medical self insurance?  The latter category covers what you might spend that is not covered by your health insurance. 

Now, fill in the numbers you spend, or expect to spend, each year for each category.  [Ignore inflation, all numbers should be in today’s costs (more on this tomorrow's post).]  If you aren’t sure what something will cost, just make your best guess.  Things like health insurance can be looked up on-line (try www.quotesmith.com).  You might want to budget for long term care insurance if you think you might want that.  Make a generous estimate for the miscellaneous category to cover anything you forgot.

Add up those numbers.  The total is the amount you need to live on if you were to retire today.  That’s simple enough.

(Tomorrow:  How much do you need?)

Related Posts:

    Retirement and the B-Word

    Spend Money on Whatever You Want in Retirement

    Happiness is Cheaper in Retirement

 

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Comments

[Janette]

Don't forget the pets. They were the kink in our budget that we did not expect!

[Bridget]

Simple enough and I wholeheartedly agree. Great article!

[Retired Syd]

Jeanette: Good point. The way I see it, I don't have pets now so we can be free to travel as frequently as we like. So when we do eventually get a dog again (which will mean that we are ready to stick closer to home), my decreased travel budget should absorb the increased cost of the doggy.

On another note, my friend is getting a puppy and I told her I would be happy to dog-sit when she is on vacation, so that should help with my doggy-fixes in the interim.

[deegee]

When I was developing my ER budget, I started with my current budget and made the following 3 adjustments:

(1) I removed the FICA taxes.

(2) I removed my commutation expenses.

(3) I increased my health insurance expenses. After they rose by 50% in 2 years, I switched to a less broad but somewhat riskier hospital-only policy.

One can also remove thieir 401(k) contributions but I did not consider that an "expense" like the other items in my budget because it was basically money going to myself.

My income taxes dropped alightly because my taxable income dropped, partly due my income dropping and partly due to being able to deduct more of my health insurance expenses.

[Chuck Stevens]

I really love the idea behind this article! I am just starting to plan for my retirement and it is so important not to forget about the simple things. It is easy to forget how important simple budgeting can be. Now if I could just find the perfect life insurance quote I'd be all set!