It should all be part of a plan.
Our all too human desires to acquire belongings, upgrade “lifestyle”, and keep up with the Joneses have a tendency to run amok if left to their own devices. Without a plan, the emotional right side of the brain often takes charge of your finances. This side of the brain lives in the present. It therefore gives current needs and wants a much higher priority than long term needs. Saving for future needs is simply not emotionally satisfying. Sure, there is a general increased sense of security, but that is left brain stuff. The right side of the brain wants the neighbors to see me pull into the driveway in a new convertible.
For many families, at nearly all income levels, the suburban American lifestyle efficiently consumes all available income. In all too many cases, it demands more than all available income, in which case debt is rapidly accumulated. People often express helplessness when it comes to saving “there simply isn’t any money left to save”. And while this may be true at the moment, it is most often the direct result of not following a plan, and letting the right side of the brain seize control of your financial life.
Financial planning puts the rational, analytical left side of the brain back in charge of money matters. The rational left side of your brain knows and sympathizes with the needs of your future self, where the emotional right side of your brain lives only for today. If you need no further reason to sit down and do some planning, it is to give your future self a fighting chance by giving the analytical side of your brain the tools it needs to remain in charge.
There are no Good Excuses! My retirement plan is a lottery ticket. Guess I’ll have to work until they put me in a box. I’m too busy. Don’t have any money. When it comes to excuses, I’ve heard them all. The most common excuses seem to carry a fatalistic tone suggesting that the situation is either too hopeless or too frightening to deal with! But the truth is, you probably have much more control over your financial situation than you may believe.
Get started planning! Start with a goal or an objective. The goal should be clear, specific, objective, and visual enough to motivate you to action. “I want to retire someday” isn’t very powerful. Here are a few good ones:
“I want to move to a house on a lake in the Adirondack mountains by the time I am 62”
“I want to quit my job, move to central PA and work part time at a garden center by the time I am 60.”
“I want to retire by 65, travel the country, and build homes for Habitat for Humanity”
What will it cost? The goal needs to be translated into dollars. You need to compute how much income you will need each year to live the life you desire. This is not always easy. A good start, however, is to take a detailed budget of what it costs you to live today and consider line by line how this is likely to change in retirement. If you plan to remain in your current home, maybe not much!
Be reasonable, don’t shortchange your future self. Most people who are approaching retirement want to live pretty much the same lifestyle they have been living during their working lives. Most people who are 70 don’t really want to “keep working until they put me in the ground”! Don’t assume that you will be satisfied living more simply or more frugally than you are willing to live today. It will be the same you! True, the kids will be grown and college (hopefully) paid for. Maybe you will spend less on commuting costs, taxes, and you won’t have to make those 401k contributions anymore. If you planned well, the mortgage will be paid off, but for the most part, life goes on in retirement and so does the cost of living.
How much do you need to save? Once you determine how much it will cost you to live, compare it to your expected sources of retirement income. For most people, this means Social Security and (if you are among the fortunate) a pension. So consider these sources of income and figure out how much more you will need each year to live your dream. Divide this amount by 4% to get a very rough estimate of your savings goal. For instance, consider the following example:
Cost of Living in Retirement (per year): $100,000
Income Expected from Social Security and Pensions: $46,000
Needed from Savings: $54,000 per year
Savings needed to Begin Retirement: $54,000 / .04 = $1,350,000
Note, this provides only a very rough guideline! Everyone’s situation is different. The above gives an adequate rough guideline and goal for a younger person, but if you are getting closer to retirement, you may need to sweat more of the details! That may take professional help! Also, don’t forget that this is a moving target. As inflation raises the cost of living, your retirement savings need will increase as well!
Don’t Panic, Plan! This savings goal may just blow your mind. But don’t panic. You can do this. This is what planning is all about.
Break it down into Manageable Chunks. Let’s say you have 10 years to retirement and you are $500,000 short of your goal. That seems an insurmountable number. But lets break it down to something more manageable. How about $2600/month? $85/day? Assuming 6% earnings on your investment over 10 years, and increasing your initial contribution by 3% each year, that is what it would take. Still seem like a lot. Time to dig into the cash flow.
Sooner is Better. If you are 15 years from your goal and need the same $500,000, the numbers seem even more manageable. $1380 per month or $46 per day will get you to your goal.
Let money work for you. Investing can be scary. But it also works. Be prudent, don’t take more risk than you can afford, but let your money earn money. The savings burden grows to an impossible level if you let your cash sit idle. Might you lose money if you invest? Sure, maybe. But unless you have huge sums to save is almost certain you will fail to achieve your goals without the power of compounding investment returns.
Make Savings your Top Budget Priority. Yes, budget. No, it is not always fun, but the only feasible way to wring more dollars out of a constant paycheck is to bring forward into your consciousness on a daily basis how every dollar you spend comes at the expense of something else. When you absolutely, positively need to squeeze more money from your income a budgeting discipline is far and away the best way to accomplish your goal. More on budgeting systems that actually work in a future post.
Get Help if You Need It. This stuff can get complicated. Sometimes it seems as if every question you answer may lead to 10 more questions or concerns you hadn’t thought about before! If the project becomes too complicated to handle on your own (a seek out some professional advice. You can find a database of local Certified Financial Planners™ at the CFP Board website.