When you think about your retirement, what picture pops into your head?
Is it a vision of you relaxing on a catamaran in the middle of the Pacific? Or do you see yourself hunched over a computer, working a nine-to-five gig because you can't afford to quit for good?
It's no secret that we are facing a retirement crisis. The National Institute on Retirement Security estimates that Americans are at least $6.8 trillion short of what we need to fund comfortable retirements. Baby boomers, who are retiring at the rate of 10,000 a day, find themselves particularly unprepared, with a median of $120,000 saved — not nearly enough to sustain a 30-plus year retirement.
Part of the reason why we probably find ourselves so unprepared is because there are so many mistaken beliefs floating around about the "R" word. From the naive ("I'll be able to live on less!") to the glum ("I'll never save enough!"), there's no shortage of misconceptions that could impact how you prepare for the future.
But with so much at stake, we're here to help set you straight. Below, we expose the common myths that could be throwing you off your own retirement course.
Myth #1: I won't need as much money when I retire.
Ask yourself: When do you tend to spend the most money? Is it when you're at work or when you have a leisurely day off? Now consider that your retirement will be more like your Sunday than your Monday.
"We tend to spend more when we have free time," says Scott Hanson, a Certified Financial Planner™ with Hanson McClain in Folsom, Calif. "People often spend more in retirement than they do working, particularly in the first few years."
A rule of thumb oft quoted is that retirees will need about 70 percent to 80 percent of their pre-retirement income to maintain their standard of living. But what you save in housing costs if you've paid off your mortgage, for example, can easily be wiped out by increased spending on "bucket list" activities, like travel and hobbies.
How much you should plan to spend — and save — depends on how you currently manage your budget. And that may mean assuming your expenses won't go down at all. "If you are saving 30 percent of your income today, then living off 70 percent in retirement may make perfect sense for you," says Ellen Derrick, a Certified Financial Planner™. But if you tend to spend most of what you bring home, or you don't expect to own your home by the time you retire, you may need up to 100 percent of your pre-retirement income to maintain your standard of living.
And don't forget that you may not be able to rely on Social Security the way that today's retirees do. The program will require an overhaul to keep its coffers filled for the future. In fact, if you're 10 years or more from retiring, it may be better to not even figure Social Security into your retirement planning.
Myth #2: Moving to a retiree-friendly state will save me money.
States like Florida and Texas don't attract retirees simply for the warm weather — they also boast zero income taxes. But you shouldn't expect to save a bundle for that reason alone. Low-income tax states often have high property and sales taxes, which can easily eat into any other savings you might reap.
Another cost that could pop up: More frequent travel. Retirees might neglect to factor in the expense of visiting family and friends who are now several states away. "Many clients of ours have left California for states with lower or no income taxes, and their overall expenses have gone up because they spend a tremendous amount to visit their families," says Hanson.
The bottom line: "Don't make a move just because of taxes," says Alfie Tounjian, a Certified Financial Planner™ with the Tounjian Advisory Group in Fort Myers, Fl.
Myth #3: My tax bill will be lower in retirement.
Many retirees assume that they'll fall into a lower tax bracket once they retire because they'll be living on less income. Experts say that assumption is risky for a number of reasons. For starters, we've already established that you may need just as much income in retirement as you did before retirement in order to keep your standard of living. Additionally, you may qualify for fewer deductions than in previous years — the mortgage interest deduction is among the biggest and most common deductions, so if you pay off your home before retirement, that deduction is gone — and don't forget that the withdrawals from your 401(k) will be taxed, too.
A couple who retires in 2013 will need as much as $240,000 beyond their Medicare coverage to pay for health care costs in retirement.
It's also very difficult to predict what tax rates will be in the coming decades. "Tax rates are really low right now relative to where they have been historically," says Derrick. So just because you pay a certain marginal tax rate today does not mean that you will in the future.
There's also a lesser-known tax penalty you might face associated with Required Minimum Distributions, which is the amount that the government requires you to withdraw from your retirement accounts starting at age 70½. If you fail to take the required amount each year from pre-tax accounts, like 401(k)s and IRAs, by that age, you may face a hefty tax of 50 percent on the amount you withdraw.
Myth #4: Medicare will be enough to pay for my health care expenses.
Qualifying for Medicare doesn't mean that your health care costs will be covered. According to AARP, basic coverage still costs seniors, on average, more than $3,000 a year, thanks to premiums and deductibles. And if you sign up for a Medicare supplement to help cover additional out-of-pocket expenses, that could cost you another several hundred dollars a month, so it's crucial to have adequate savings set aside for your health care in retirement.
In fact, your health will probably be your biggest future expense. Fidelity estimates that a couple who retires in 2013 will need as much as $240,000 beyond their Medicare coverage to pay for health care costs in retirement. That may sound steep, but the estimate covers deductibles and copayments, out-of-pocket expenses for prescriptions and visits to specialists, as well as other expenses, like dental visits, hearing aids, and eyeglasses — all of which aren't covered under Medicare.
Another reality check: Medicare probably won't pay for long-term care, and if it does, it will only cover you for up to 100 days. "People assume that if they have to go into a nursing home, Medicare will cover them, and most of the time that's not true," says Derrick. With the annual cost of a nursing facility averaging around $78,000, it's the kind of expense that can quickly wipe out savings, says Tounjian, who recommends buying long-term care insurance to protect your nest egg.
Myth #5: Paying off debt and my kid's college tuition come before saving for retirement.
Placing either of these two priorities before retirement is one of the biggest financial mistakes you can make. "I compare it to what they say when you get on a plane," says Derrick. "In case of loss of cabin pressure, put on your mask first and then assist a child. That's because you are no good to the kid if you pass out."
It's the same for retirement: Run out of money, and you could find yourself a burden to your own children when they are trying to raise their own family. "So you want to make sure your retirement plans are on track" before addressing other financial goals, advises Derrick.
The only debt that you might want to prioritize ahead of saving for retirement, says Tounjian, is whatever you have on a high-interest credit card. "There's good debt and there's bad debt," he says, "and it can help to have someone help you figure out what to pay first." While being debt free at retirement is certainly a worthy goal, no one should wait until they are debt free to begin saving for their golden years.
Myth #6: I should hold mostly bonds by the time that I retire.
Bonds are sometimes considered a retirees' safe haven. They aren't as sexy as stocks, but they offer a lower-risk profile and a more predictable income stream. A well-known calculation suggests that your position in bonds should equal your age. In other words, if you are 65, then 65 percent of your portfolio should be in bonds.
But with today's interest rates so low, this rule of thumb is no longer set in stone because the long-term maturity bonds you buy today might not be worth as much in the future if interest rates rise. (To read up on how bonds work, go here.) There's also the off chance that a bond crisis similar to what happened during the recent recession, when trickle-down effects from the economy forced Treasury yields to almost nothing, will recur.
So given this, you may need to accept a bit more risk and hold more stocks than previously thought in order to finance a 30-plus year retirement. "Having a diversified portfolio that will grow with inflation is critical," says Hanson.
But, adds Derrick, you still want to try to make your portfolio [increasingly] conservative as a hedge against a drop in the stock market, so your portfolio should be balanced based on your timeline and ultimate savings goal. The good news: Many funds that are managed for a target retirement date gradually move investors into bonds as they get older.
Myth #7: I'll only have to worry about supporting myself in retirement.
Just because you stop working doesn't mean that you stop being a parent. Six in 10 Americans past the age of 50 provide financial support to family members, according to a Merrill Lynch/Age Wave report. And much of that is because they are living under the same roof: According to the Pew Research Center, more than a third of young Americans aged 18 to 31 — nearly 22 million — still live at home. Translation: You could be on the hook for helping to provide for your own children's food, clothing and phone bills in retirement. "Very few people consider [those costs] when they put a retirement plan together," says Tounjian.
So before everyone starts claiming their rooms, it's important to have a family talk about what the money rules of the house will be when you retire, such as whether your child can afford to pay some rent, as well as what kind of boundaries you will set when it comes to paying for your kid's expenses.
Then there's the other half of the family equation: Supporting elderly parents. Now that most people are living longer, it's not unusual for a couple retiring at 65 to have one or more parents to look after. As a result, assisted living, medical costs and expenses associated with long-term care could become your burden, too.
Derrick's advice? "You might need to think about setting aside money for them," she says. "Or if you are able, consider buying long-term care insurance [on their behalf] that would pay out if something happens."
Myth #8: Having a 401(k) is enough.
If you're currently contributing to a 401(k), pat yourself on the back. However, you should be wary of putting all of your financial eggs in one basket — typically, holding a single investment vehicle can increase your risk, and in the case of just having a 401(k), it lowers your options when it comes to taxes.
"Just as it's important to diversify investments, it's important to diversify tax strategies," says Hanson. "If all of your money is in a [traditional] 401(k) or IRA, every time you need income, it's going to be taxed. But if you have money in a 401(k), some in real estate, some in a Roth IRA and some in a brokerage account or mutual fund, then you've got a tremendous amount of flexibility in how you pull income — and you can save in taxes by having a diversified approach."
Myth #9: I can always keep working if I come up short on savings.
Thanks to longer life spans, it's certainly more likely that you'll work past the traditional retirement age of 65. But "it's just foolishness" to count on employment as the best way to fund your golden years, says Hanson. "You need to plan for the possibility that you can't work into your 60s, much less your 80s."
Just because you ran a marathon in record time doesn't mean that you can bank on being fit enough to work when you're older.
The reason? Health problems and disabilities are responsible for over half of early retirements. So just because you ran a marathon in record time doesn't mean that you can bank on being fit enough to work when you're older. Plus, you might find yourself out of a job years ahead of schedule due to downsizing or changes in the economy — not to mention the possibility that your field might not even exist in the future. Jobs like postal workers and data clerks may soon be obsolete.
Myth #10: I'll never be able to save enough.
We don't blame you for feeling this way. Every time that you've used a retirement calculator, the numbers that spit out probably feel more like a pipe dream than a reality. But if those digits leave you feeling distressed, focus less on the end number and more on the act of steadily increasing your savings. With a plan in place, you may be surprised by how much you can sock away — no matter when you start.
"Have hope," says Derrick. "Regardless of where you are, you can always create a financial plan. You may not become a millionaire overnight, but it's about taking one step at a time."
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