In today’s fast-paced environment, planning for retirement may be the last thing on your mind. However, the importance of retirement planning cannot be emphasized enough. Whether you want to travel the world, pursue your passions, or simply enjoy a stress-free retirement, it all hinges on building a solid financial foundation early on.
- Retirement planning involves saving, investing, and eventually distributing money to support yourself in retirement.
- We will cover the benefits of retirement planning and how to determine how much you need to retire comfortably.
What Is Retirement Planning?
Retirement planning involves determining your desired retirement income and coming up with strategies to achieve your financial goals. That may include evaluating your income sources and expenses, implementing a strategy to save and invest your money, and effectively managing your assets and risks. By estimating future cash flows, you can gauge how feasible it is to reach your target retirement income.
It’s never too late to start planning for retirement, but integrating it into your financial planning as early as possible is best. The earlier you start, the easier it will be to ensure a safe, secure, and enjoyable retirement. That, in turn, makes some of the less fun aspects, such as planning how you will reach your goals, more palatable.
Since every retirement plan is unique, it is essential to design a strategy that aligns with your specific needs. After all, you may have distinct visions for how you want to spend your retired years. By tailoring your plan to suit your circumstances, you can pave the way for a fulfilling and secure retirement.
Understanding Retirement Planning
Retirement planning is not just about your finances. You should consider the non-financial aspects of your life too, including how you want to spend your time in retirement, where you want to retire, and at what age you want to retire, among other factors.
Your focus may shift at different stages of your life. For example, if you are early in your career, you may be focused on just setting aside a portion of your monthly income in a retirement account, such as a Roth IRA or employer-sponsored plan like a 401(k). But, if you are in the middle of your career, you may want to have clear financial targets in mind and a game plan to achieve them.
13 Reasons Why Retirement Planning Is Important
1. Social Security Benefits Are Likely Insufficient
If you are hoping to rely solely on your Social Security benefits for a comfortable retirement, you may be out of luck. According to the Social Security Administration, the average monthly benefits is only about $1,698.05. For most people, this is nowhere near enough to maintain their standards of living pre-retirement.
Additionally, Medicare, the primary health insurance for seniors in retirement, may not cover all the costs you may encounter. More than 1.4 million Americans live in Medicare- and Medicaid-certified nursing homes, with most of them over age 80, according to Dr. Michael Tehrani, a geriatric physician with Brand New Day HMO, a California Medicare Advantage plan. However, Medicare coverage for nursing home or skilled nursing facility stays is limited to the first 100 days and is contingent upon a hospitalization of at least 3 days before the stay.
2. Prepare For the Unknown
When it comes to retirement, countless factors can impact your financial security. While most people are optimistic about their future, things may not always go as smoothly as we’d like. Because retirement only happens once (hopefully), you may lack the experience to retire successfully.
That’s where retirement planning comes in. Preparing ahead can help fill in the gaps and allow you to come up with potential solutions to any problems you may encounter.
3. Lower Your Stress Levels
Money problems are a huge source of worry for most people. According to the American Psychiatric Association, 65% of adults stress over money. Like with any source of stress, financial issues can take a toll on your mental and physical health, relationships, and quality of life.
Financial stress can lead to health problems such as insomnia, weight gain or loss, depression, anxiety, heart disease, headaches, etc. It may also cause you to withdraw from your friends and family and rely on unhealthy coping mechanisms like drinking or gambling.
By planning for retirement as soon as possible, you can stay on track toward achieving financial independence. That will benefit your physical and emotional health as you can have peace of mind knowing you are prepared for your future.
4. Pay Less Taxes
Nobody wants to pay more taxes than necessary, and retirement is a phase in your life where taxes can significantly impact your income and savings if not carefully managed. The more control you have over your income sources, the better you can optimize your taxes.
Your tax strategy for retirement should start during your working years, but it will drastically change once you retire. While working, finding deductions and tax credits to lower your taxable income is crucial. For example, contributing to a 401(k) plan or qualifying IRA contributions can reduce your taxable income and save you money. For lower earners, there may even be the opportunity to qualify for the Saver’s Credit, further reducing your tax bill.
Ideally, you will want to diversify your income sources in retirement, which typically fall into 3 main buckets:
- A pension plan is a retirement savings vehicles employers provide to their employees. They are designed to provide a steady income stream during retirement. Contributions are made by both the employer and the employee, and the funds get invested to grow over time and provide retirement benefits.
- Social Security is a government program in the U.S. that provides income support to eligible individuals during retirement, disability, or upon the death of a spouse or parent. It is funded through payroll taxes and provides a monthly benefit based on an individual’s earnings history.
- A 401(k) is a retirement savings plan offered by employers where employees contribute a portion of their pre-tax income to a tax-deferred investment account. The contributions can be invested in various assets, such as stocks, bonds, and mutual funds, to grow over time. Upon retirement, individuals can withdraw the accumulated savings, which may be subject to taxes.
- A pre-tax IRA, or Traditional IRA, is an individual retirement account where individuals can contribute money before taxes are deducted from their income. The contributions grow tax-deferred until withdrawal during retirement. Withdrawals from a pre-tax IRA are generally taxed as ordinary income.
- Roth IRAs are individual retirement accounts where individuals contribute money after taxes have been deducted from their income. The contributions grow tax-free, and qualified withdrawals during retirement are also tax-free. Unlike a pre-tax IRA, there are income limits for contributing to a Roth IRA.
- A health savings plan, or health savings account (HSA), is a tax-advantaged savings account designed for individuals with high-deductible health insurance plans. Contributions to an HSA are tax-deductible, the funds can be invested and grown tax-free, and withdrawals for qualified medical expenses are tax-free. HSAs provide individuals with a way to save and pay for healthcare costs while enjoying potential tax benefits.
- Municipal bonds, or munis, are debt securities state and local governments issue to finance public projects such as infrastructure development. They are typically exempt from federal taxes and, in some cases, state and local taxes as well. Investors who purchase munis are essentially lending money to the government and, in return, receive regular interest payments and the return of their principal investment upon maturity. Municipal bonds are considered relatively safe investments and can provide tax advantages.
- Individual brokerage accounts are investment accounts individuals open with brokerage firms to buy and sell different securities, such as stocks, bonds, mutual funds, and exchange-traded funds (ETFs). These accounts provide direct control over your investments and offer flexibility in terms of investment choices. Investors can use individual brokerage accounts to build a diversified portfolio, potentially earn capital gains, receive dividends or interest income, and access their funds whenever needed.
5. Make Better Financial and Career Decisions
As you navigate through life, you may encounter more and more key life decisions that lack clear-cut answers. For example, should you continue with your current job or venture into entrepreneurship? Should you pursue higher education or pivot into a new career path? How should you fund your children’s education?
These types of decisions hold significant financial implications and shouldn’t be made in isolation. If you do not have a solid plan, that can increase the chances of making bad financial decisions. In particular, the financial burden, of heavy debt, especially from credit cards, can cloud your judgement. Conversely, with a concrete retirement plan, you will have a better grasp your finances and be less prone to mismanaging your money. You’ll be equipped to assess major life choices rationally and be able to breath easier knowing that your finances are all sorted.
6. Forced Retirement Won’t Be Scary
Retirement planning is crucial for ensuring financial security for yourself and your loved ones. As mentioned earlier, relying solely on Social Security may not be sufficient, particularly with increasing life expectancy.
Unexpected circumstances may force you to retire early, such as due to layoffs, physical limitations, or burnout. By proactively saving ahead of time, you will be in a much better position and won’t get forced to make desperate choices during early retirement.
7. Enjoy a Happier Marriage
It’s no secret that financial issues often lead to marital problems and even divorce. Conflicting financial priorities, excessive debt, and a lack of shared financial goals can strain a relationship.
While having a retirement plan in place may not single-handedly fix marital issues, it can certainly contribute positively. Politics, intimacy, parenting, and finances are among the primary triggers of arguments in marriages. By aligning with your spouse on retirement planning, you can focus on more exciting decisions, such as where and how you want to spend your retirement years.
8. Enjoy Your Retirement
Retirement should be a time of joy and fulfillment, free from financial worries. It’s the opportunity to finally pursue your bucket list dreams that you weren’t able to accomplish during your working career and early life, whether it’s traveling the world, getting a reverse mortgage, moving to a vacation home in a new city, etc.
With proper planning, you will have disposable income to make your retirement dreams come to life. You can avoid the grim reality of struggling to make ends meet during your golden years and won’t have to compromise on necessities or make difficult choices.
9. The Average Life Expectancy Is Rising
People are living longer than ever before, with the average American lifespan approaching 80 years old. That means you’ll likely need more savings to sustain a comfortable retirement. It’s important to note that many individuals surpass the average life expectancy, requiring even more funds to support an extended retirement.
With retirement getting longer, that raises the possibility of unexpected expenses, particularly medical emergencies. As you age, the risk of complex and costly medical conditions increases. Medical conditions, rehabilitation, nursing home care, and medications not covered by Medicare can be extremely costly.
The rising healthcare inflation rate and increasing medical expenses further emphasize the importance of retirement planning. A robust retirement plan is essential to handle any medical or financial emergencies that may arise. The last thing you want is to resort to credit cards or personal loans during retirement.
10. Stand On Your Own
Proper retirement planning ensures you are not reliant on others for financial support after retiring. Historically, many older individuals have relied on their children and friends for financial assistance in retirement.
The “sandwich generation” refers to individuals who are simultaneously supporting their children and one or both parents. Approximately 44% of middle-aged adults with children at home have a living parent who may require care, and 15% are part of the sandwich generation.
While there’s no shame in seeking support when needed, establishing appropriate boundaries with extended family members and in-laws is crucial. Consider that your family may have their own financial responsibilities, such as supporting their children, repaying student loans, or paying their mortgages.
In retirement, you should strive to be financially independent, not dependent on anyone, including your family. You want to be in a position where you have enough money to support your family’s financial well-being rather than worsen their situation.
11. Spoil Your Family
Retirement planning is not just about securing your financial future; it also enables you to give your family peace of mind and create lasting memories with them. When you have a well-thought-out retirement plan, your family can rest easy knowing you have the resources to support yourself.
Moreover, you can treat your family with meaningful experiences, whether it’s a dream vacation, supporting their educational pursuits, or helping them achieve their financial goals. Because you don’t have to stress over money, you can spend more time with loved ones and be present for important milestones and family events.
12. You Can’t Work Forever
While you may think you can work indefinitely, the truth is that it’s unlikely that you will maintain peak professional performance for your whole life. As you age, physical and mental limitations may impact your ability to thrive in your career.
Regardless of your desire to keep working for your entire life, having a retirement fund ensures you have a safety net to fall back on when things don’t go your way. It provides you with the financial freedom to embrace change and adapt accordingly.
13. Leave a Legacy
Retirement is an opportunity to leave a lasting legacy. Beyond passing on wealth to your children, retirement planning empowers you to contribute to causes you care about and make a positive impact on your community.
While most people cut down on their living expenses in retirement, they often continue to contribute to charity. If philanthropy is an integral part of your life, it’s likely important to you to maintain your support for your favorite organizations and causes.
How Much Do You Need to Retire?
The amount of money you need to retire depends on several factors, including your desired lifestyle, anticipated expenses, expected retirement age, and life expectancy. While there is no one-size-fits-all answer, here are a few key considerations to help you determine how much you may need for retirement:
- Estimate your retirement expenses: Start by assessing your expected living expenses. Consider factors such as housing, healthcare, transportation, food, leisure activities, and any other costs specific to your lifestyle. Creating a budget and tracking your current expenses can provide a baseline for estimating your retirement expenses. Experts generally use the 80% rule, where you live on 80% of your income at retirement.
- Calculate your retirement income: Determine your expected sources of retirement income, such as Social Security benefits, pensions, investments, and any other income streams. Understanding the amount you’ll receive from these sources will help you gauge how much additional savings you need.
- Consider inflation and longevity: Account for inflation when estimating your future expenses, as the cost of living will increase over time. Additionally, consider your life expectancy and plan for a retirement that could span several decades.
- Use retirement calculators: Online retirement calculators, such as this one, can provide a rough estimate of how much you should save based on your current age, income, savings rate, and other relevant factors. These tools can help you assess your progress toward your retirement savings goals.
- Seek professional guidance: Consulting with a certified financial planner can provide personalized guidance based on your specific circumstances. They can help you evaluate your retirement needs, develop a comprehensive savings plan, and make adjustments as needed.
The Bottom Line
As you can see, retirement planning is crucial for many reasons. Accumulating enough funds to retire may take decades. Ideally, you want to put yourself in the best possible situation by starting early. The more money you set aside today, the less you have to worry about later on.