Introduction
Ramsey Solutions is well known for saying that you must have a purpose for every dollar. This is the only way to ensure that you are controlling your dollars and not having them control you. This is this case for a new college graduate, parents of three kids and retirees.
Each stage of life presents its own challenges, including those experienced during the golden years. Typical financial challenges for retirees include: fixed incomes, healthcare, inflation and more. All these challenges must be considered when creating a retirement budget. This article provides a step-by-step guide to creating one.
Step 1: List Income Sources
The first step is to know (or estimate) how many dollars are coming in. This means listing and adding up all the sources of income you know or can expect to have in retirement. For example:
| Possible Sources of Income | Discussion |
|---|---|
Social Security benefits | Most people will have some amount of social security benefits at retirement. The average benefit today is around $1,800/month |
Pension plans | More common in the public sector, there are few private employers still offering traditional pensions. A pension is simply a regular payment during retirement from an investment fund and is usually guaranteed for life. |
Retirement savings (401(k), IRA) | Most people retiring today and into the future will have retirement savings in a traditional 401(k) and/or IRA or Roth 401(k) or IRA or some combination of them. What’s worth noting here is that traditional accounts are invested pre-tax, grows tax free and will be taxed when withdrawn. Roth accounts are invested with post-tax money, grow tax free and are withdrawn tax free. |
Investments and rental income | Other investments could include a brokerage account, trusts, etc. Also worth listing are any rental properties providing cash flow. |
Part-time work or side income | Even if you’re officially retired it doesn’t mean your work life has to end with your traditional 9 to 5. Many continue working in retirement on a part time basis to supplement their income. Consideration needs to be taken if you decide to continue working and when to take social security benefits, since more income may mean more taxes taken out of your benefit. |
Calculate Your Expenses
Now that you have an idea of how many dollars are coming in on a monthly basis, it’s time to calculate what dollars are going out on a monthly basis. You can categorize your expenses are either “essential” (needs) and “discretionary” (wants). Below is a table with examples of both categories. This will differ depending on each person’s particular circumstances.
| Essential Expenses | Discretionary Expenses |
|---|---|
Housing (mortgage, rent, maintenance, property taxes) | Dining out |
Healthcare (insurance, prescriptions, out-of-pocket costs) | Vacations |
Utilities and daily living expenses | Hobbies |
Transportation (car purchases, gas, public transit) | Subscriptions (magazines, streaming services) |
Groceries | Gym memberships |
Insurance (home, auto, life) | Luxury items (clothing, accessories) |
Determine Budget Adjustments
Now that you have dollars in and dollars out on a monthly basis it’s time to identify the gap. If you have a positive number after subtracting expenses from income, then you can adjust either category or save the rest. If you are doing this calculation prior to retirement (highly recommended!) then you can start to make adjustments today that will help you in retirement. Adjustments you could make today:
Downsizing your home. Whether you have a mortgage or a fully paid for home, you could consider downsizing by either moving to a smaller home or moving to a cheaper location or both. Money left over after the sale and purchase of a new home can then be saved for your future retirement.
The ultimate goal is to be debt free by retirement.
But depending on circumstances, not everyone will be able to achieve this goal. With interest rates, as of this writing, as high as they are, the opportunity may soon come for a refinance of any debt.
Retirement income planning is another consideration that will require thought and, likely, a financial planner.
For traditional accounts such as 401k’s and IRAs, there will be RMDs at 72 (or 73 depending on when you were born). This could significantly affect a retirees tax burden.
Ensuring diversification of income should also be considered to hedge against one of a retiree’s biggest hurdles – inflation.
Plan for Emergencies and Long-Term Goals
Like budgets, emergency funds are for anyone at any stage of life. The whole purpose of the fund is for – emergencies! We don’t know when they’ll come, how long they’ll or how much they’ll cost. It’s generally recommended to save 6-12 months of essential expenses. And remember, this is an emergency fund, it should only be used in an emergency!.
When it comes to budgeting and retirement income planning the other largest consideration outside of inflation is healthcare costs. “On average, according to the 2024 Fidelity Retiree Health Care Cost Estimate, a 65-year-old individual may need $165,000 in after-tax savings to cover health care expenses.” Remember this is an average. It may be prudent to increase this number depending on family history and current medical conditions.
Conclusion
To summarize: track your income, control expenses and adjust as needed.
Setting a budget is not a set and forget type of activity. At a minimum a budget will need to be reviewed annually and again if there are any major changes in either income or expenses.
Looking at the current environment, thinking about the future and planning can be scary. But just know that there are trusted professionals ready and able to provide a helping hand. Partnering today with a certified financial or retirement income planner can ease your burden and your mind and help ensure a peaceful retirement.