Melissa A. Seamon, CFP®
Senior Financial Advisor
For a while, accumulating $1 million for retirement was considered the benchmark for financial security, enough to live out your years in comfort with a little something left over as a legacy. Unfortunately, a million dollars may not go as far as it used to in retirement.
Does the 4% Rule Still Work?
The 4% rule is a guideline financial advisors have used to determine a withdrawal rate that would sustain retirees throughout their lifetime.
In the early 1970s, it was determined that, based on historical averages, retirees could comfortably spend down their assets at a rate of 4% per year without risking the complete depletion of their capital. That would mean that a $1 million portfolio would allow for an annual withdrawal of $40,000 (4% of $1 million) adjusted for inflation each year for 30 years.
However, today’s retirees are discovering that rules based on decades-old historical averages do not reflect the twenty-first-century realities of increasing stock market volatility, rising healthcare costs, and ever-expanding life expectancies with the high cost of long-term care. Add the recent increase in inflation, and planning for lifetime income sufficiency has become more daunting than ever. At 6% inflation, a $40,000 annual withdrawal would lose half its purchasing power in 12 years.
Real-Life Factors that Impact the Sustainability of $1 Million
Still, that does not rule out the viability of a $1 million portfolio as a sustainable source of retirement income. You need to consider several factors that can impact how far it can take you in retirement.
Geography: One of the biggest factors affecting retirement costs is where you live. Considering the cost of living in each state, including housing, transportation, food, healthcare, and utilities, $1 million would last less than 14 years in California while extending to more than 22 years in Oklahoma. You can control your cost of living based on where you live.
Lifestyle: Your lifestyle choices and how much you spend to maintain them are also critical. Retirees who choose to downsize their lifestyles—i.e., buy a smaller house, less expensive cars, less dining out, etc.—can stretch a million dollars further than those who do not.
Longevity: While you may have control over where and how you live, no one knows how long you will live. However, you can make an educated guess based on your health and your family’s health history. If you expect to live well into your 80s or 90s, $1 million may not be enough.
Health care: For many retirees, Medicare may be sufficient to cover health care costs. However, healthcare costs are increasing, and the average 65-year-old couple retiring in 2022 can expect to spend $315,000 to cover them in retirement. Your health and how you maintain it is a big factor in making your retirement savings last longer.
Long-term care: Not factored into your health care expenses is the cost of long-term care, which could run $70,000 to $100,000 a year depending on the level of care and where you receive it. Medicare does not cover long-term care costs, so a couple without long-term care insurance would risk depleting a significant portion of their assets.
Investment risk: If you invest all your $1 million in cash savings, you cannot expect to have it last through retirement. How long you can make it last depends on how you have it invested so that it keeps up with inflation. If you invest too aggressively, you risk permanent portfolio losses, but investing too conservatively will not allow your assets to grow enough to offset inflation and withdrawals.
Inflation: In recent years, inflation has become the 800-pound gorilla in the room. For nearly three decades, retirees have not had to be concerned with rising inflation, making it easier to project their retirement cash flow. If inflation continues to increase or stays elevated, you have to be concerned with how it affects your purchasing power over time.
How to Determine If $1 Million Is Enough to Retire On
With all these factors bearing down on your retirement plans, some you can control, some you cannot, it is not advisable to rely on general rules of thumb in determining how much you will need for retirement. It is better to take a more nuanced approach, using the following steps:
- Calculate how much you expect to spend in retirement. Use your current lifestyle as a guide. The best place to start is tracking your expenses for 1 to 2 years.
- Estimate how much you expect to receive from sources such as pensions and Social Security.
- Calculate the difference between your spending goals and your expected retirement income (pensions and Social Security); this is the amount you will need to spend from your savings.
- Add an emergency fund.
- Consider a “fun” job in retirement to supplement income.
- Be prepared to update your expectations.
Your best course of action to find your retirement savings number is to work with a financial advisor who can consider your circumstances, goals, and priorities to develop a comprehensive analysis and personalized plan to estimate how much you will need to retire.
If you are in need of a financial ally who can help you navigate the financial complexities of retirement, we encourage you to schedule a call, learn more about our services, and see if Gardey Financial Advisors could be a good match. We best serve clients looking for exceptional client service, who value a long-term partnership, and have a minimum of $500,000 in investable assets.
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