The US’s consumer-led economy has been driven to success with a buy now and pay later mindset. About two-thirds of our economy comes from consumer spending. As advertised, the assumptions are that your future will be brighter, you will earn more and you will be able to save for your future later when your kids are grown, or your needs are less. You also will be able to live on less when you get older.
When it comes to income taxes the rate of income tax you will pay when you stop working will be less than the rate you pay today. Well, unfortunately, I am here to tell you it is time to rethink these guiding principles of financial life in America.
If you are a FinancialVerse subscriber, you have read in our posts or heard in our podcasts about a number of factors that are changing these principles and making saving for your future needs when you stop working full-time or enter what we call in the Fulfilling Stage of your financial life much more difficult. These factors include:
The low interest rate environment
The high costs of living, impacted by increasing inflation
The high cost of debt service impacted by student loans and vehicle debt
Reduced employer provided defined benefit retirement programs
The fallacy of depending on Social Security retirement benefits to fully fund living expenses
The poor savings and credit use habits of most households
The increasing cost of healthcare
The reality of lengthening life expectancies.
The end of full-time work will come, but the question you need to be prepared to answer is, “Will you be ready to fund your living expenses through savings and benefits you have accumulated?” The choices you make about your rate of savings, debt service, retirement contributions and investments are up to you. Here is why in today’s environment it is essential to jump start your savings so you can retire well. In reality, you need to save more now to live better later.
Here are 10 realities you need to consider:
1. Put a financial plan in place. As the old adage goes, “if you don’t know where you are going, you’ll likely end up someplace else.” Having a plan in place that addresses all the key financial aspects of life including savings, investment strategies and necessary insurance coverage should be your starting point in planning your money matters.
2. Time is money. The earlier you begin to save and invest the better. The benefits of time allow you to take advantage of compounding, meaning it will increase returns and, if you are using tax deferred accounts such as IRAs or a 401k plan any earnings on contributions go back into your account without being taxed and can generate additional earnings. The younger you start the better for the long-term.
3. Develop a savings mindset. Gone are the days of working for one company and retiring with a gold watch and a pension. Today, it is up to every individual to start saving as early as they can to accumulate savings and benefits for when full time work stops. With the impact of inflation on living and health care costs it is essential to save even just a little every month. Today’s savings can yield major benefits later in life.
4. Don’t plan to rely solely on Social Security to fund living costs. In late 2021, the Social Security Administration announced that the average benefit for a retired worker would be $1,658, starting in January 2022 with the maximum benefit increasing to $3,345 for high lifetime earners. Can you fully fund your monthly living expenses on this amount? Social Security retirement benefits are designed to replace 40% of an average worker’s pre-retirement earnings with the percentage declining for higher earners. These projected benefits will not fully replace your income.
5. What will your living expenses be when you stop work? If you don’t have a monthly cash budget, the time to create one is now, especially if you are age 45 or older. In reality retirement income planning is really making sure you have enough cash coming in to pay your bills. You need to clearly understand what you are spending each month and how it will change as you age.
6. As a nation, we aren’t saving enough. “The U.S. personal savings rate, which is the percentage of people’s income remaining each month after taxes and spending, was approximately 7% in 2021 according to the U.S. Bureau of Economic Analysis. This level of savings projected into the future will not generate enough income given lower expected rates of return and longer life expectancies. The cold reality is that you likely need to save more cash than you are currently doing.
7. Continuing to work into old age may not be a great strategy. Working after retirement because you want to can be a psychologically rewarding way to stay engaged and earn extra income. Working because you have to — may not be a safe strategy and can prove unwise. While many people plan to work in retirement, unexpected health issues, disabilities, layoffs, dependent care needs and age discrimination may thwart this desire.
8. Healthcare costs continue to increase at rates greater than inflation. Fidelity Investments recently published that a couple aged 65 retiring in 2021 will need approximately $300,000 in after-tax savings to pay for their non-Medicare covered medical expenses excluding long-term care costs. You must find ways (e.g., using a Health Savings Account if you qualify) to specifically save for these costs or purchase health insurance (Medicare Supplement plans) to provide protection. These costs are real and can eat away at your post-working cash budget.
9. You need to address the elephant in the room – the need for long-term care (LTC) protection. One cannot predict if you’ll need a long-term care services or possible confinement to a nursing home in the future but know this: Medicare and private health care do not cover the costs. Medicaid can cover the costs but only if you have little to no money. You must seek some financial protection from this need in your financial planning.
10. Most retirees spend more than they think in their later years. If you plan on traveling, participating in more recreational activities or contributing to charitable causes you will need the cash to do so. You need to set aside the extra cash to do these things outside you normal living expenses.
There you have it. After considering all the key financial factors impacting our world today, you need to shift your mindset from buy now, pay later to save now, live better later. While I do not mean you need to deprive yourself of pleasures today to save for later life, you may need to be selective on what pleasures you purchase with a keen eye to 20 years from now. Be realistic about life, unless you are hit with an unexpected illness or accident the likelihood is that you will live well into old age. How do you want to live those extra years? Plan and act now to make that future dream of a financially secure time of life a reality for your household.
Harry discusses this topic and much more on The FinancialVerse, available wherever you get your podcasts. Learn how to improve the quality of your financial life, reduce sources of money stress, and make the most of each stage of your financial journey.