How to create a retirement spending strategy

Whether you’re approaching retirement or are already retired, you’ve probably spent a good deal of time thinking about your retirement savings strategy, which is great. But there's another step in the retirement strategy process that's equally important. Creating a retirement spending strategy.

Why? Because without a strategy, you may find yourself running out of money sooner than expected. That may lead to financial anxiety and potentially compromise your quality of life. A spending strategy can help you enjoy the retirement lifestyle you want without excessive worry. It can also help you adjust your spending as your needs and lifestyle change over time. In short, having a retirement spending strategy can provide some financial confidence and can help you enjoy a fulfilling retirement with less worry. Find out more about:

• What you can expect to spend in retirement

• How spending may change in different stages of retirement

• Ways to help make your retirement savings last

• Creating a retirement budget

How much will you need to spend in retirement?

The first step towards developing a retirement spending strategy is to estimate how much your total expenditures may be – even if it's just an educated guess. This will help you evaluate your current retirement savings and anticipated retirement income and make key decisions moving forward, such as how to manage your investments and IRA drawdowns.

According to a popular rule of thumb, most people in retirement should plan on spending approximately 70-80% of what they were spending pre-retirement. In fact, one study of actual retirement costs found that spending in retirement ranges from 54-87%, with most retirees using 70% or less of their former income.¹

Of course, it’s important to remember that the amount you spend in retirement will vary greatly depending on your lifestyle, location, and personal preferences. Do you plan to move to an upscale resort or stay in your current home? Might you downsize? Are you looking forward to extensive travel, or do you plan to spend your leisure time on less costly activities? Will you dine out three times a week or once a month? How often do you expect to buy a new car? These are the types of questions you should ask yourself to determine whether your expenditures are likely to come in above or below the norm.

Expect your spending to change over the 4 stages of retirement

For planning purposes, many professionals break retirement into four stages: pre-retirement, early retirement, middle retirement, and late retirement. While your personal timeline may differ somewhat from the ages and stages assigned by the experienced professionals, you can assume that during different stages, your financial situation may change, as will your spending patterns.

Stage 1. Pre-Retirement (age 50-62)

Unless you plan to retire early or later than the current norm, the decade between your early 50s and early 60s is likely to be spent working and contributing to your retirement account(s) as you anticipate leaving the workforce in the foreseeable future.

During this period, you’ll probably pay more attention to your retirement accounts and begin to delve deeper into the nuts and bolts of retirement finances – including estimating your anticipated income and expenses during retirement and developing a retirement budget. If your retirement savings lag behind where you wanted to be, you may want to use this time to cut back on your spending, ramp up your savings, or make catch-up contributions to your IRA(s). And, if you're still carrying a lot of debt, you may consider developing a strategy that can help you to retire debt-free or close to it. Fortunately, the pre-retirement stage is not too late to "get your ducks in a row" for the future. So, you'll want to use it to full advantage.

Stage 2. Early Retirement (age 62-70)

Except for high-net-worth individuals and those with generous pension benefits, early retirement is a time when spending patterns are most likely to change as people transition from receiving paychecks to relying on Social Security benefits, income from savings, and possibly part-time work. It’s also a time to assess one’s current and anticipated financial situation.

In addition to reductions in gross income, people who've lost their employer-sponsored health insurance but are still too young to begin Medicare may have to add private health insurance premiums to their list of essential expenses. Still, others may be carrying the added financial burden of relocating to a new home or a retirement community. Whatever your individual situation, early retirement will probably offer the first real glimpse of what your living expenses and financial life will look like moving forward. As such, it's a good time to revisit your planning and budgeting, particularly to make any changes or spending reductions that can boost your financial confidence. It may also be a good time to reach out to a financial professional if you need some extra help.

Stage 3. Middle Retirement (age 70-80)

By age 70, everyone who's entitled to Social Security income should be receiving it, and by age 73, many people will have to begin taking required minimum distributions from retirement accounts, including profit-sharing, 401(k), 403(b), 457(b), and Roth 401(k) plans, as well as most types of IRAs (but not Roth IRAs).²

Equally important, middle retirement may be a time when expenses begin to decrease. Even world travelers may begin slowing down a bit, taking fewer vacations or less costly trips to closer destinations. Some people may cut back on dining out, movies, concerts, and other activities that boost discretionary spending. Those who've been helping out adult children or grandchildren may be freed from those obligations as their dependents get older. And still, others may not feel the need to keep term life insurance policies in force – or start accessing cash value³ from their whole life policies – because they have sufficient assets to help protect their spouse or partner in the event of their death. So, for many people, middle retirement can be a time of increased annual income, lower annual expenses, and enhanced financial confidence.

Stage 4. Late Retirement (age 80 and up)

Late retirement may present financial challenges for which some people may not be fully prepared. Simply put, this is the stage where healthcare costs and living expenses tend to increase significantly. As uncomfortable as the subject may be for some, it’s very important to consider all the possibilities in advance to help avoid being blindsided at a later date.

Generally speaking, healthcare spending is greatest during one’s later years. And while Medicare pays the bulk of the bills, the deductible and 20% copay may be a significant financial burden for those without supplemental coverage – but those premiums can also be a substantial expense. In addition, there is the possibility that health issues may require a move to an assisted living facility or a nursing home or paying for a home health aide. All of these options are quite costly and can quickly deplete one’s savings.

That’s why it’s important to try to conserve one’s assets for as long as possible by limiting spending or increasing income—or both—especially in the earlier stages of retirement.

Manage your retirement savings and assets to help make them last

How you manage your savings and sources of retirement income can have a meaningful impact on how much you’ll have to spend in retirement – and for how long. Here are some things to consider:

Make sure to draw down funds in the right order

The order in which you draw down from your retirement savings accounts can make a big difference in how much income tax you will pay and, most importantly, how long your assets last. Every person’s situation is different, but as a general rule many suggest first withdrawing income from your taxable accounts, then tax-deferred accounts (such as Traditional IRAs and 401(k) plans). Lastly, draw on your tax-free accounts, such as a Roth IRA.⁴

Consider delaying Social Security benefits for as long as possible

If you're eligible for Social Security, you can begin taking benefits as early as age 62 or as late as age 70 – but the longer you delay, the more you will receive each month. On the other hand, depending on your life expectancy, you could end up losing out on retirement income if you delay taking benefits for too long. Which route is best for you depends on your individual circumstances and needs. If you're not sure what to do, you may want to consult a financial professional who can help you pinpoint the ideal age for you to start collecting.

Think about following the 4% spending rule

The 4% rule is a widely-cited – but admittedly imperfect – rule of thumb for retirement withdrawals. Created by a financial professional named Bill Bengen in 1994, the rule suggests that if you spend up to 4% of your retirement savings balance in year 1 – then adjust the amount each year for inflation – you may be able to make your nest egg last at least 30 years, if not indefinitely.⁵ The math behind the rule is based on historical performance averages for stocks and bonds, and assumes funds are invested accordingly. And while the rule may not hold true for every 30-year period, it’s still a fairly conservative way to look at your spending – even without any interest or investment earning, a sum of money will last 25 years with 4% annual withdrawals. However, like any other rule or guideline, the 4% spending rule is not appropriate for everyone, so consider discussing what’s right for you with a financial professional.

Creating a retirement budget

Once you’ve created your retirement spending strategy – which will give you a good idea of how much retirement income you’ll have available to spend each year – consider taking the next step by developing a retirement budget, which will help you to allocate available resources to your day-to-day and essential expenses as well as special or infrequent outlays.

Even if you’ve never lived within a formal budget before, the process doesn’t have to be too hard. In fact, it may be as simple as listing and totaling all your anticipated expenses and subtracting the total from your anticipated monthly income. If you find that there is a discrepancy between income and spending, try to find places where you can cut back or think about strategies to increase your income. Just try to keep your long-term goal in sight: you want to establish a budget that allows you to maintain your current lifestyle and enjoy financial confidence in later years.

Find out if you’re on track

Whether retirement is still on the horizon or you’re already there, it's always a good idea to know where you stand. Use this retirement calculator to see whether your personal finance goals are in sight, pretty close, or have veered off course.

Guardian can help

This information can help inform your retirement spending strategy and decisions and get started on your own. However, as you get deeper into the retirement budget and spending process there may be issues that require you to consult a financial professional.

If you don’t currently have such a person to speak with, Guardian can help. A Guardian financial professional will listen to your needs and help you to better understand the retirement strategy process and make the right financial decisions. Here’s how to find someone near you: