When I was in my late 20s, I worked with a lady who had recently retired. Virginia (as I will call her) volunteered a few days each week at the public-service organization where I worked. One day, as we were assembling materials for a direct-mail publicity campaign, we began to talk about money.
I will never forget the wisdom that Virginia passed on to me that day. “When you are young, you spend money to get to know who you are—what you like, what you don’t like, what you may want in the future. Once you’re older, you will spend less because you know you who are. Many choices are clearer and easier.”
As I approach the age of Virginia when she spoke those words to me, I think about them often. I wonder: Do I really know what I want the senior phase of my life to be? And every article I come across about the financial needs and strategies of seniors automatically grabs my attention—partly because I am a financial educator, but even more because of my personal concerns— those quiet fears that sometimes lead to restless nights. Questions, rational and irrational, materialize in my head, feeling menacing and foreboding, as if presaging a downward spiral into financial chaos.
I wake up worried, but as the daylight gets stronger those unsettling thoughts dissipate. The reason is that I took Virginia’s wisdom to heart. The fact is that I know myself pretty well at this point, and I have a clear idea about the choices I will need to make to be financially secure, contented, and vital in my old age.
Determine the Lifestyle You Want and Can Afford
The big financial questions I face as I approach my golden years really come down to a single question: Given my financial resources and my ongoing financial commitments, what kind of life can I afford? What seniors want is to have a retirement income well-aligned with their needs and desires— and that means something a little different for each individual.
For this reason, it’s important to figure out in advance what your incomings and outgoings will be during this new phase of your life. Depending on your mindset and comfort level, the numbers can be rough or detailed. For most people, the more information you have, the better. This way there are unlikely to be any unfortunate surprises.
The first question to ask is what you hope to do in old age. Which of these describes your main goal?
- To luxuriate in a life free of schedules and daily commitments.
- To continue working in your chosen profession, but at a less intense level, perhaps letting it slowly wind down over me.
- To supplement your retirement income through additional work in order to meet primary obligations, such as children still in school.
- To replace work with voluntary activities at a cultural or arts organization, a local charity, a hospital, or an after-school tutorial program.
- To travel the world or move to a different area or country for a lifestyle you’ve long dreamed of.
- To help your children get on the property ladder and/or set money aside for the future education of your grandchildren.
Each decision has financial repercussions. Establishing your goals and objectives in advance will help you assess what your retirement lifestyle is likely to cost and what adjustments you may have to make. Of course, once you actually see what the reality is, further adjustments will need to be made, but these should not be totally surprising or severe.
Assess Your Risks
Perhaps the biggest worry most people have about retirement is the fear of outliving your financial resources. Given increasing longevity, this risk is especially significant if, like so many people nowadays, you lack a traditional pension or an annuity that will pay you for life. One way to reduce this risk is to follow a model that dictates how much of your nest egg you should draw down each year. The classic guideline is the “Four Percent Rule.” According to this model, if you spend approximately four percent of your nest egg each year, your remaining funds (savings, investments, and so on) should last your entire lifetime. You can gradually increase this percentage each year as your me horizon (i.e., your life expectancy) shortens.
However, there is some new research guidelines based on changing interest rates and the performance of the investment markets as well as the individual’s me horizon. Regardless of which approach you take; the key is to have a plan in place and then reassess and adjust it periodically as economic and personal conditions change.
Another significant risk factor—one that is insidious because it is essentially invisible. Over me, inflation erodes your financial security by reducing the purchasing power of your money. During a period, your nest egg’s value—that is, the amount of goods and services that can be bought with it—will decline because the costs of those good and services increase faster than your money grows.
I’ve seen this happen with older friends who have been retired for decades and lived through several periods of even modest inflation. Paying expenses that seemed insignificant early in their retirement gradually became more and more difficult. They started to make cutbacks, each one decreasing their sense of financial security and increasing their worry. As I observed and learned from these friends, the longer you ignore this situation, the fewer and more difficult your options will be.
A classic, me tested way to protect your savings against risk is to invest some of you retiretirement funds in an asset class that tends to keep pace with inflation. Blue-chip equities and property are prime examples. However, these types of investments carry other types of risk that you must not ignore or minimize, for example, the risk that you might not be able to sell them quickly or easily in a time of need. It’s important to educate yourself about these risks. Do your own research if you are so inclined, or have an in-depth conversation with a financial advisor or stock broker you trust, one who you know will explain the risks and rewards in clear, simple terms you can understand. If you don’t understand the risks involved in an investment or if you have doubts about it, then don’t buy it. Remember, it’s your money and your decision. And there’s no such thing as a completely risk-free investment.
The Biggest Risk of All
The biggest risk is one you might not think of immediately. It’s yourself. I learned this lesson years ago when talking with a therapist about the troubles I’d had getting along with my bosses in one job. The therapist finally asked me, “Who is common to all of these situations?” A light bulb went on. I realized that I’d carried the same set of personality traits to each new job and therefore contributed to the creation of the same problems again and again. In order to get out of this cycle, I had to be the catalyst of my own change. Over time I expanded this self-understanding to other areas of my life—especially the ways I spent, saved, and invested my money.
It’s important to be aware of your money personality, especially what I like to call those “little money craziness” that lurk in many of us. The personality that shaped how you handled money during your working years will be the same personality you will carry into your retirement years. If you’re like many people, your money personality may even become more pronounced or entrenched as you age. If you’re part of a couple, being clear-eyed about your attributes and weaknesses as they relate to money, as well as those of your partner, is key to avoiding conflicts and surprises. If, for example, one partner is a risk-taker who secretly borrows against existing assets (such as the house) to fund lavish trips and gifts, the financial impact and sense of emotional betrayal if it all goes wrong is likely to be devastating. Neither member of a couple should abdicate all of the financial responsibility to the other.
Both must participate. Remember, it’s not only about knowing yourself, but also about knowing your partner or spouse for better and for worse, especially the flaws related to money. If you’re single like me, it is wise to have a trusted financial advisor, relative, or long – time knowledgeable friend who can serve as a sounding board and help you remain aware of your objectives as well as the little craziness that may create dangers for you and your money. This type of trusted relationship is not something that develops automatically or quickly. It takes years and many conversations. Based on my own experience as a single person, I urge you to fund this person before your retirement. If you can’t—if you find yourself tackling retirement on your own—I suggest you simplify your financial life so that you are fully aware and in control of all of your assets. This will help you to enjoy your retirement without having to worry about your money every day.
The Simple Three-Basket Approach
I’ve found it useful to think of the money I’ve accumulated in three distinct baskets. The first contains the money you need to cover your anticipated living expenses for the upcoming year (or whatever short-term me period you are comfortable with). This money should be kept in cash or an interest-bearing savings account. The goal is to keep this basket risk-free. I call it my peace-of-mind money, I know my typical monthly expenses and how they fluctuate; I have my financial bases covered, and I’ve built in a modest cushion for the unexpected.
The second basket contains money to cover any significant spends you anticipate over the next three to five years—a big birthday or anniversary party, a special once-in-a-life time holiday, contributions to your grandchildren’s educations, or money given to your children to help them get on the property ladder. Because these expenses are a few years away, this money might be invested conservatively for dividend payments and modest capital growth. Your choices will be influenced by your own risk tolerance and the economic outlook at that me.
The third basket contains your long-term life- time savings. This is the money whose growth will sustain your retirement. Income from this pool of money in the form of interest, dividends, or capital gains will provide the funds in your first basket. Apply the Four Percent Rule or other convenient on to determine your annual withdrawal from this third basket. And if inflation becomes a significant worry, then it is the money in the third basket that you would invest in securities or property to protect the value of your money from being silently eroded. Remember to periodically review the performance and value of your investments and rebalance them when appropriate to make sure you are achieving your investment objective.
Freedom is a key part of the enjoyment of one’s senior years—and not just the freedom from doing work you do not want to do. The freedom I speak of is mental. It is knowing that your finances will meet your needs and desires; that your financial picture is simple enough so that you can carry it in your head and reference it easily; and that you have enough financial flexibility to do things, whether modest or grand, that deeply excite and satisfy you.
Achieving and maintaining this freedom comes down to one important word not usually associated with finances. That word is alignment. If you can align the retirement lifestyle you dream of with the financial resources you’ve amassed over the years—and then align both with the money personality you’ve developed over a life time – you’ll be well-positioned to enjoy a rewarding old age with the sense of serenity that brings both practical and psychological freedom.