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5 Ways Fake News Could Be Sabotaging Your Retirement Plans

This article is more than 7 years old.

We've been hearing a lot about "fake news" lately and now there's some concern that the president's budget will use overly optimistic economic assumptions. Regardless of how you feel about the budget and the assumptions it's based on, that's certainly not a mistake you want to make in your own planning. After all, the government can simply pass on any mistakes to current or future taxpayers, but we have no such luxury. Here are some overly optimistic assumptions that may be producing a retirement planning calculation based on “fake news:”

1. I can live on a lot less income in retirement. When I ask how much money they'll need in retirement, many people give me a much lower number than their current income. First, there's a tendency to underestimate your spending so start by tracking your actual expenses. However, there are some legitimate reasons why your expenses may be lower in retirement. For example, your mortgage may be paid off, your kids will be on their own (hopefully), and you won't have to spend money commuting or eating lunch at work.

On the other hand, even if your mortgage will be paid off (which may not be the case for a "soaring" number of retirees), you'll still have to pay homeowner's insurance, property taxes, and maintenance (which can be higher with an older home). You may also find yourself spending more on eating out, travel, and entertainment with all your extra free time. Don't forget to factor in medical costs as well, especially if you're retiring before Medicare eligibility at 65. Even with Medicare, there are out-of-pocket premiums and other costs.

2. I'll plan to live to 85. In financial terms, the shorter your estimated life span, the more optimistic you're actually being. That's because your money will need to last at least as long as you do.

The tendency here might be to use the average life expectancy but that means that roughly half the people will live longer than average. If you're above average in education and income (and since you're reading this, you probably are), you're also more likely to be in the longer living camp. This estimate doesn't even factor in any future innovations in medical technology that may further prolong life spans. To be on the safe side, you may want to assume a life expectancy of 90 or even 100.

3. My investments will earn a 10% average return. There are several reasons you might not get that 10% average return you've probably heard about. First, that number is based purely on long term stock returns and you probably have a more balanced portfolio of stocks, bonds, and cash, especially as you get closer to retirement. Second, high stock valuations and low interest rates have led many investment experts to forecast below average returns going forward. Finally, most investors end up getting even less than the average return due to poor market timing and investment fees.

For these reasons, you may want to assume a lower average return of between 4-6%, depending on how aggressive an investor you are. Also try to stick with your asset allocation rather than trying to time the market and look for funds with lower costs. This can help you get as much of that return as you can.

4. I can live off of my investment earnings. If your portfolio earns 5% a year, you could theoretically withdraw 5% a year for income. However, that leaves out two things. The first is inflation. Since the price of everything you buy will be going up each year, your withdrawals will need to go up too.

The second is market volatility. When your portfolio goes down in value, you'll have to sell more shares to generate the same income. That also means less money invested when it eventually recovers. Think dollar-cost-averaging in reverse. This is why it's particularly dangerous to be unlucky enough to retire during a prolonged bear market.

One solution to this is what's known as the "4% rule." A study found that you could safely withdraw 4% of the initial value of a balanced portfolio and increase the withdrawals with inflation each year for 30 years. However, many experts are now saying that the 4% rule can no longer be relied on due to lower expected investment returns. You may want to assume a 3.5% or even 3% withdrawal instead. If this is not enough income, consider an immediate annuity.

5. I'm not worried about long term care. It's been estimated that about 70% of 65-year olds will need some form of long term care and that care is expensive and not covered by Medicare. As a result, your entire retirement nest egg could be wiped out by just a few years of care. Medicaid does cover it but you have to spend down virtually all your assets to qualify. That's why you may want to purchase long term care insurance.

Of course many of these assumptions may end up being too pessimistic. In that case, you'll end up retiring with more money than you need. I don't know anyone who ever complained about that.

 

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