(This article appeared previously on MarketWatch.com.)
Unfortunately, retirement for some people may end in a proverbial train wreck. Some of it is inevitable based on limited earning power throughout the career. But other impediments can be avoided. Here are eight self-inflicted wounds that undermine a successful retirement and how to avoid them.
1. Failing to calculate your savings target. According to the Employee Benefits Research Institute (EBRI), only 44 percent of people have calculated how much they'll need for retirement. As the old saying goes. "People don't plan to fail, they fail to plan."
A retirement calculator can let you know both the grand total of assets you'll need at retirement as well as the amount you need to save each year to be on track for a successful retirement. It shows where you are now, where you need to be and what you need to do. Incredibly, it only takes minutes of your time to fill one out (a little more if you want to play around with several “what if” scenarios).
One easy to use and popular retirement calculator is the Ballpark E$timate
. MarketWatch’s Retirement Planner
provides a similar tool to see if you are on the right track. In addition, there are a plethora of other online calculators with varying degrees of involvement. If you aren't in a do-it-yourself mood, you can hire a financial planner to use sophisticated modeling to calculate your retirement needs.
(MORE: Secrets of Effective Retirement Savers)
2. Putting too little away for retirement. According to the National Retirement Risk Index published by the Center for Retirement Research at Boston College, 53 percent of U.S. households are at risk for not having enough savings to maintain their standard of living in retirement. And AARP says that 26 percent of older women rely on Social Security for 90 percent or more of their family income. Yikes!
These and a variety of other statistics paint a bleak picture for retirement security in America. Part of the reason for this may be that people don't know how much to save because they haven't used a retirement calculator. Hopefully they will wise up and take the time to calculate their “number.” Also it may be helpful to know a few rules of thumb.
According to research done by noted authority and MarketWatch.com RetireMentor Wade Pfau
, a safe level of savings of a little over 16 percent of salary a year might be a reasonable amount to target, but you will need to put it into a diversified portfolio of stocks and bonds.
In other words, with apologies for oversimplifying a fairly complex topic, you need to save over 16 percent of your salary annually in order for your retirement plan to provide for sufficiently sustainable withdrawals. The good news is that employer matching and nonelective contributions count toward the 16 percent rule of thumb.
Another suggested rule of thumb is that you need about 15.7 times your final pay to fund retirement (about 4.7 times of this is provided by Social Security).
Finally, a word of warning: Don't rely on automatic enrollment contributions to fund a satisfactory retirement. Even though your employer automatically enrolled you in the company 401(k) plan (a great thing!), the amount it set for your savings is probably too low. Increase your plan contributions to the level you need, rather than the bare minimum provided by the employer's default provision.
3. Choosing to take early withdrawals from your retirement savings.
To be fair, I think most would argue that this is less of a choice and more of a necessity. Regardless, taking out money earmarked for retirement and using it for current consumption can really torpedo your retirement security.
One report found that withdrawals for nonretirement purposes by account holders under 60 amounts to $60 billion a year, or 40 percent of the $176 billion that employees put into accounts each year.
(MORE: The 5 Money Pitfalls of Pre-Retirees)
According to the EBRI, there is some hope that nearly 50 percent of the people are rolling over some or all of their distributions to tax-qualified savings. That's great! But too much savings earmarked for retirement is lost to what the Department of Labor calls “leakage.”
If possible, don't raid the piggy bank before retirement. Use rollover options for plan funds when switching jobs instead of spending the money. Most important, make sure you are saving for other priorities like emergencies, the education of your children, or your daughter's wedding, in addition to retirement.
Retirement resources can look tempting when the apple of your eye is buying the dress for her special day, but we need to resist dipping into them lest we become dependent on her in the later years of retirement.
The best way to do this is to have an emergency fund, education fund, and wedding fund that is separate and apart from the funds needed for your retirement. Most people realize they need to set up a monthly budget for the mortgage, food, utilities, etc., but don't forget you also need to budget for emergencies and other savings goals.
4. Ignoring the non-financial side of retirement.
The psychological side of retirement gets little attention in financial publications; yet it can be reasonably argued that this is the most important factor to consider.
When we plan for retirement do we really examine the important questions? How will you adapt to a retirement lifestyle? Is retirement going to be about what you don't do anymore, or is it going to be about what you will do? In other words, are you running away from work or toward a new reality?
You will need first to plan for a purposeful and meaningful retirement and envision what your routine might be like, and then adapt your savings plan to meet your particular vision.
You need to decide on what will be your organizing principle (a task formerly occupied by your young family and career). Remember the adage that “man is so made that he can only find relaxation from one kind of labor by taking up another.”
The 180-degree turn you take for retirement may be fraught with some interesting issues at the intersection of self awareness and your budget. People who have saved all their life have a difficult time adjusting from accumulating assets to spending them. Will you starve yourself in retirement or spend furiously? I would recommend saving enough to earmark three retirement funds to deal with the psychological and practical sides of retirement.
Of course the main fund should be the bulk of your savings, and it should be used to decumulate assets into a workable retirement budget. However, with just a little more effort, a second (and smaller) fund can be created to meet the psychological need of having some “mad money” with which you can indulge yourself. This fund can be thought as a use it and lose it fund. Will you want to remodel the home, travel the world, or make pilgrimages to visit far away family?
5. Choosing to go it alone. According to EBRI, roughly one in five workers and only 25 percent of retirees report they have obtained investment advice from a professional financial adviser who was paid through fees or commissions. Too many retirement decisions are made through inaction instead of proactively advocating for the optimal solution. We don't know what we don't know, and experts can raise awareness of issues, strategies, and products of which we aren't aware.
Too many people don't understand investment strategies, Social Security claiming strategies, tax strategies, pension distribution options, and how to prepare for and handle the multifaceted risks associated with retirement. You wouldn't prescribe medicine for yourself; you would ask a doctor to diagnose and prescribe treatment. Why “self medicate” your financial success in retirement?
6. Having too much of your retirement portfolio in employer stock. Obviously a diversification problem exists for investments. What's worse, however, is that there is another diversification problem that comes from combining human capital and investment capital. If your company falls on hard times or goes out of business you may lose both your retirement money and your job at the same time.
7. Missing out on employer-matching contributions. Every vested employee is turning away free retirement savings by not contributing enough to receive the full amount of their employer's match.
8. Not contributing to an IRA. If your employer doesn't have a qualified retirement plan, then it falls on you to save on your own. One of the best ways to do this is to establish a deductible or Roth IRA. In addition, if you have any income from self employment (1099 income), a SEP or other type of retirement plan may be a good idea.
Kenn Tacchino is a professor of taxation and financial planning at Widener University in Chester, Pennsylvanie. Kenn is the editor of the Journal of Financial Service Professionals. The Journal reaches over 16,000 practitioners, academics, and policy makers in the financial services industry. Professor Tacchino is also a frequent speaker at professional meetings for financial planners. He can be reached at [email protected].
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