Do You Really Need to Replace 80% of Your Income In Retirement?

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The rule of thumb for retirement states that a comfortable retirement requires you to replace 80% of your yearly income. But a retirement study from Morningstar found that a typical American retiree’s income replacement rate in retirement ranges from a little under 54% to over 87%. For those who fall into the lower end of the replacement range, are they going to be stuck eating ketchup sandwiches in retirement?

Not necessarily. While aiming to be able to replace 80% of your salary in retirement is an excellent goal, and one that you should certainly be working towards, you don’t need to worry about running out of money if you fall somewhat short of the mark. Here’s why:

Your Expenses Go Down in Retirement

Not only have you stopped saving for retirement by the time you reach that milestone, but you are also likely to no longer need to spend money on childcare-related expenses, mortgage payments, and life insurance premiums. Add in the costs of working — including a work wardrobe, the cost of commuting, the price of convenience foods and dining out, etc — and the amount of money you’ll need to maintain your lifestyle goes down more.

Ultimately, it costs less to be a retired empty-nester than it does to be a young professional parent.

You Can Always Supplement Your Retirement Income

Our view of retirement has changed over the years. Rather than thinking of it as a complete end to the working life, which it may have been 40 or 50 years ago, retirement is more like a transition to a different stage of life. That means retirees have the chance to explore other interests and job opportunities, rather than think of themselves as simply used up.

The good news is that with the help of the Internet, appearances are becoming less and less of an obstacle to getting a foot in the door. Whereas an employer may not have hired you if they saw you as someone who could be one of their parents, people don’t care what you look like through the Internet nowadays as long as you are competent at your work.

Thinking of retirement as a life change or transition can be enough to make working in retirement more palatable, which can certainly help with keeping your retirement income manageable.

You Can Make Smart Choices Ahead of Time

According to the latest Consumer Expenditure Survey from the U.S. Bureau of Labor Statistics (BLS), the three largest expenditures for retirees are housing, transportation, and health costs. On average, seniors spend 63% of their budget on these three categories. Health care costs jump from about 10% of the budget for 50-64-year-olds to 20% of the budget for those over age 85. In fact, a healthy 65-year-old today can expect to spend as much as $351,000 in today’s dollars on healthcare over their lifetime.

It’s not all bad news though, because you can make smart decisions before you retire in order to not let these costs overwhelm your retirement income. First, you can start by planning to have your mortgage paid off before you retire so that you will only owe property taxes on your home in retirement. Alternatively, you can downsize before you retire, which will reduce your housing costs and free up the equity in your larger home.

The people who sold us our current house did exactly this. The husband was retiring, so they decided to downsize by selling and moving an hour away to purchase another one. By downsizing and also moving to an area with a lower cost of living, they are able to stretch their funds much farther. Most people think that downsizing is a sacrifice. The way I see it, they are being smart with their money and therefore maximizing their lifestyle. Think about it. Do you want your money being wasted on extra rooms in your house you will seldom even walk into, or do you want to use that money to eat better and travel in comfort more often?

Transportation is another biggie not many people talk too much about. Maybe it’s because most people think there really isn’t too much you can do to reduce that cost. Still, retirees can save a lot by thinking about their choice of vehicle and also their insurance coverage. Once you retiree, you will drive less. At the very least, you should get a small discount based on your driving habits.

Retirees can use this opportunity to go shop around for a better rate. It’s boring advice, I know, but it bears repeating. When was the last time you heard of a recent retiree shopping for a better insurance rate? I recently asked my insurance broker to find a better deal on my home and car insurance policies. I ended up getting higher coverage policies for a 20% discount. Isn’t that worth a few phone calls?

As for your health care costs, it’s a good idea to look into long-term care insurance before you retire. This insurance will help pay for the sort of care that Medicare doesn’t cover, such as help with daily activities if you have trouble with mobility. By making sure you are covered in case of a non-medical health crisis (such as being diagnosed with Alzheimer’s or even arthritis), you can reduce your overall expenditures on health care.

The Bottom Line

It’s always a good idea to plan prudently for your retirement, and aiming to replace 80% of your income is such a prudent strategy. But there’s no need to worry if you realize you won’t quite reach your goal. Just be aware of what your financial limitations will be and make plans accordingly.

Are you worried about not having enough saved for retirement?

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  • Steveark says:

    I was only spending 25% of my income when I retired. We were still living well on six figures of spending, but it was only a fraction of my pay. It’s expenses that matter, income isn’t always related although it usually is. Great post, you really hit some points most people miss I thought.

  • Sane Jane says:

    I pay more than 20% of my income in taxes, so it’s obvious to me that the often quoted 80% replacement stat is bogus.

    Base your retirement plan on your expense, not income, stupid!

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