How Will You Know If You Can Afford to Retire?
"Can I afford to retire?" It’s a question that echoes in the minds of many, and it’s more complicated today than ever before. Retirement isn’t just about having a large enough nest egg—it’s about making that nest egg last, especially in a world where we’re living longer, facing more economic uncertainty, and grappling with rising costs.
Let me share a quick story.
A few years ago, a client—we’ll call her Laura—came to me with this very question. Laura had diligently saved throughout her career and on paper, she thought she was set. But when we accounted for inflation, longevity, and potential surprises like healthcare costs or tax hikes, her plan wasn’t as ironclad as she’d hoped. This led to some hard but necessary conversations about what retirement readiness really means today.
Inflation and Longevity: The Silent Threats
For prior generations, retirement planning was simpler. Life expectancy was shorter, and many retirees didn’t live long enough to feel the full effects of inflation. A modest pension and Social Security benefits often sufficed. Fast forward to today, and we’re looking at a very different picture.
With life expectancy now stretching into the 80s, 90s, and beyond, inflation becomes a much bigger deal. Let’s break this down:
Fixed Income vs. Rising Costs
Laura figured she would need $100,000 per year from her investment portfolio, net of taxes. But unfortunately, she didn’t properly account for inflation, which meant her buying power would erode significantly over her retirement lifetime. At a 3% annual inflation rate, what buys you $100,000 worth of goods today will only buy about $74,000 worth in 10 years, $55,000 in 20 years, and just $41,200 by year 30. That’s nearly a 60% reduction! Imagine getting a cut in pay every year for the next 30 years!
Now, consider a slightly higher inflation rate of 4% - after all, so far this decade, inflation is actually averaging higher than 4% and many are expecting inflation to be sticky. In ten years, that same $100,000 would only buy about $68,000 worth of goods, $46,000 in 20 years, and just $31,700 by year 30, steadily cutting your income down to nearly 30 cents on the dollar as you are nearing the end of life. The difference may not seem drastic at first glance, but over time, it adds up—and, clearly, this can have a significant impact on your quality of life.
Rising Income to Match Inflation
Alternatively, if your income rises by 3% or so annually to match inflation, your purchasing power remains steady. The challenge, of course, is ensuring your investments grow fast enough to provide this rising income while also managing the risks of longevity. Here’s what the numbers look like:
- No Income Increase: A fixed $100,000 income loses purchasing power every year, dropping to just $41,200 by year 30 (at 3% inflation) or $31,700 (at 4% inflation).
- Rising Income: Adjusting income by at least 3% annually seeks to ensure your buying power stays consistent, but it requires significant planning to ensure the funds last. To keep up with inflation, Laura will need $134,000 a year in 10 years, $180,000 in 20 years and $242,000 a year in 30 years. How can she accomplish this with limited resources that are paying out distributions?
The Graph: Inflation's Impact on Fixed and Rising Incomes
Below is a graph illustrating these scenarios:
- A fixed income of $100,000 annually, with its buying power decreasing by 3% and 4% inflation each year.
- An income rising by 3% and 4% annually to counteract inflation.
You can see visually that the difference is striking. Imagine how it might feel financially. Over 30 years, the fixed income’s buying power shrinks dramatically, while the rising income keeps pace with inflation, maintaining purchasing power. This stark contrast highlights the importance of planning for both inflation and longevity when evaluating your retirement readiness.
The total cumulative lifetime income needed based on $100,000 net income is as follows:
- 20-year retirement with 3% inflation: $3,444,920
- 20-year retirement with 4% inflation: $3,817,702
- 30-year retirement with 3% inflation: $6,099,412
- 30-year retirement with 4% inflation: $7,190,377
All calculations assume 22% federal tax rate and no state tax income assumptions.
The difference an additional ten years of life makes, when you project this out over a long span of time, amounts to a need of $2.6 to 3.3 million more to fund retirement. Without inflation, the simple math says it will cost $1 million ($100,000 x 10 years) but because of inflation it could require up to 3x more. Now consider the cost of miscalculating your life expectancy.
Longevity Magnifies the Impact
Why does this matter so much now? Simply put, we’re living longer. Planning for 30 years of retirement instead of 15 or 20 years doubles the timeframe where inflation chips away at your finances. And let’s face it – we weren’t anticipating longevity and inflation we started saving for retirement.
For Laura, seeing this graph was eye-opening. It wasn’t just numbers on a page—it was a visual reminder that longevity and inflation are game-changers for anyone hoping to maintain their quality of life in retirement.
The Go-Go, Slow-Go, and No-Go Years
Another key consideration in retirement planning is understanding how spending evolves over time. We often hear that retirement is divided into three phases, commonly referred to as the “Go-Go Years,” “Slow-Go Years” and, “No-Go Years.” Here’s how it is explained and why I don’t necessarily agree with this simplification of retirement.
The “Go-Go Years” are the early years of retirement when you’re healthy, active, and likely to spend more on travel, hobbies, and other activities you’ve been looking forward to. Contrary to popular belief, retirees in this phase may spend as much—or even more—than they did during their working years. Studies show that many retirees spend more because they’re not just traveling but also undertaking major life changes, such as remodeling their homes or relocating. These costs can add up quickly: travel isn’t cheap, moving expenses can be significant, and new décor or home improvements can eat through a basic spending budget in no time.
The key takeaway? Be mindful of your spending patterns during this phase. Plan for these activities by creating a realistic budget and tracking your expenses closely to ensure you don’t overextend your resources.
The “Slow-Go Years” refer to a period when activity levels might decrease, leading to reduced spending on things like travel and entertainment. Many envision themselves entering this phase in their mid-to-late 70s. While this is true for some retirees, others defy expectations by maintaining an active lifestyle well into their 70s and 80s. In fact, advances in healthcare mean that more people are traveling, relocating, or pursuing new hobbies even as they age. I have a client who spent a month traveling around Morocco last December at the age of 84 and she did it solo!
On the flip side, this is also the time when healthcare costs often begin to rise, offsetting any savings from reduced discretionary spending. Premiums, co-pays, medications, and early-stage long-term care expenses can create significant financial demands. I have a neighbor who is 75 and suffering from dementia. His wife can’t afford the cost of both long term care and her living expenses so, for now, she is juggling work and part-time in-home care, but she knows it’s only a matter of time before he will need full-time care. This dual dynamic highlights the importance of accounting for rising healthcare costs in your retirement plan, even as your discretionary expenses may decline.
The “No-Go Years” mark the later stages of retirement, often characterized by a decline in health that leads to increased spending on healthcare, long-term care, or assisted living. While some retirees assume they won’t live into their 90s, the statistics suggest otherwise: there’s roughly a 1-in-4 chance of living into your 90s, and for married couples, there’s nearly a 50% chance that one partner will reach this milestone.
Advances in technology and medicine are further extending lifespans, making it increasingly likely that future retirees will face even longer “No-Go” phases. We have had plenty of clients live well into their 90s and while more seem to be living independently longer, eventually it seems most are requiring some level of assistance. So while discretionary spending—such as travel and entertainment—may decline, skyrocketing healthcare costs can make this phase just as expensive, if not more so, than earlier stages of retirement.
I’ve been working with retirees for over thirty-five years, and my experience is that it’s a fallacy to assume that you’ll spend less in your later years. Improving healthcare and longer life expectancies mean that many retirees remain active well into their 70s and 80s, incurring higher expenses for travel and activities than prior generations. And when health inevitably declines, the cost of care can be staggering.
Of course, I also believe in very detailed planning, which means when we work with clients, we create a separate travel and leisure budget that might decrease and/or gradually cease. However, we also have a separate rather conservative healthcare budget. Even travel also has been rising at a higher rate than inflation, so be careful with your calculations. I often say the devil is often in the details, which is why understanding the different phases of retirement helps illustrate why having a financial cushion and a robust investment strategy is crucial. Your retirement plan needs to account for the dynamic nature of expenses over time, ensuring that your money lasts through all phases.
A Financial Cushion for the Unexpected
On top of inflation and longevity, retirement comes with surprises. Healthcare is one of the biggest wildcards, of course. Even with Medicare, retirees often face high out-of-pocket costs for premiums, deductibles, and the risk of long-term care.
Taxes are another challenge. Even with the possibility of extended tax cuts, the likelihood of higher taxes over your retirement lifetime is significant and cannot be ignored, potentially eroding savings further. Add in the looming uncertainty of Social Security’s solvency, and it’s clear why prior generations didn’t face the same financial complexities. Back then, pensions and shorter lifespans provided a buffer. Today, those buffers are gone. The corporate pension insolvencies of the 1970s highlighted how faulty assumptions can destabilize long-term planning—a cautionary tale for retirees today who must navigate these risks on their own.
I’ve seen clients face major unexpected expenses with home repairs, helping family members, lifestyle changes, surprise dental or vet bills, and much more. That’s why building a financial cushion is critical. It’s not just about budgeting for the expected; it’s about preparing for the unexpected.
Investment Management in a Complex World
Since inflation is arguably your greatest threat, to keep pace with the rising cost of living, your investments must grow—and grow carefully. In order to enjoy a rising income in retirement, you need a portfolio that can sustain steady growth while managing risk. This is where risk management becomes non-negotiable. Markets can be volatile, and a poorly timed downturn in the early years of retirement can create a ripple effect that’s difficult if not impossible to recover from.
Transitioning into retirement changes the approach entirely. The focus shifts from wealth accumulation to income generation and risk management. This shift requires a strategy that prioritizes preservation while still allowing for growth to combat inflation.
For our clients, we structure and manage retirement portfolios to strike the right balance between growth and safety. While a "set it and forget it" approach may have worked well during your working years, it doesn’t translate to the complexities of retirement. During the wealth accumulation phase, a growth-focused, buy-and-hold strategy is often effective. Regular contributions to savings, coupled with time to ride out market cycles, make patience a valuable asset.
However, as you approach retirement, the time needed to recover from market downturns becomes increasingly limited. Patience doesn’t matter when sequence risk is at work. (If you aren’t familiar with Sequence Risk, I welcome you to read my white paper by clicking here). Consequently, safeguarding your savings and reducing risk becomes essential to ensure you can retire comfortably. Unfortunately, I’ve seen too many individuals face significant financial setbacks because they neglected this fundamental investment principle. The allure of high returns from an aggressive portfolio may be tempting, but such strategies have historically caused great harm to many nearing retirement when we have faced economic surprises.
Likewise, we have seen many individuals miss opportunities and generate returns that are insufficient to sustain a healthy retirement due to fear-driven decisions, such as selling during a down market, or by adopting an overly conservative approach. Tilting too far on the risk spectrum can be equally damaging—whether it’s the dramatic, immediate impact of a poorly timed exit or the slow, gradual erosion caused by being too cautious. Both extremes can jeopardize the long-term success of a retirement plan.
Furthermore, in retirement, you will likely find yourself drawing income from your savings—and withdrawing funds during a market downturn can amplify losses, making risk management essential. In my extensive experience navigating the capital markets, I have found no substitute for adhering to prudent investment principles and maintaining a disciplined focus on stability. Our disciplined approach has proven effective, even during some of the most challenging market conditions on record. It’s a strategy we advocate, and one that our clients can rely on - to weather economic cycles, navigate market shifts, and keep pace with inflation. It’s no longer about getting the best returns, but rather steady returns while avoiding major volatility.
Social Security: A Shifting Foundation
And then there’s Social Security. While it remains a key piece of the puzzle, its future is uncertain. Current projections suggest that the trust fund could run out by 2035, leading to benefit cuts of 20–25%. Although I am confident none of us will face this cut directly, when planning with clients, we assume a reduction in benefits that can vary based on the individual situation, but the focus is the same - to avoid overestimating Social Security income projections. If the system remains intact, we see it as bonus; but we believe it’s wise to plan conservatively.
The Takeaway: Retirement Mandates a Different Mindset
Retirement today requires a different mindset than it did for past generations. You need to plan not just for the lifestyle you want, but for the challenges you’ll inevitably face. Inflation, longevity, and unexpected expenses are the new normal.
Here’s how to approach it:
- Account for Inflation: Plan for rising costs over 30 years or more, ensuring your investments grow enough to maintain your purchasing power.
- Build a Cushion: Create a financial buffer for unexpected expenses like healthcare or higher taxes.
- Manage Investments Carefully: Focus on a balance between risk management and long-term growth to keep up with the rising cost of living and weather market volatility.
- Plan for Social Security Uncertainty: Assume a reduction in benefits and ensure your plan doesn’t rely too heavily on this income.
Retirement isn’t just about having enough money—it’s about having a strategy to navigate the unknown. When you plan for the long haul, rather than just look at one year at a time, you can enjoy the freedom and peace of mind you’ve worked so hard to achieve. Laura did it, and so can you. It’s time to get started.