Jane Young, CFP, EA
Over the years I have observed that a comfortable retirement and financial security can best be achieved with reasonable lifestyle choices. One of the biggest detriments toward reaching financial independence is spending beyond your means and spending on things you don’t really need. You don’t necessarily need millions of dollars to retire comfortably but you need to follow a lifestyle that minimizes your living expenses while allowing you to indulge on things or experiences that are really important to you. Good financial planning requires a balance between current expenses and saving for the future.
Many Americans have a habit of systematically increasing expenses in lock step with salary increases. Along with a big raise or promotion comes the inclination to buy a bigger house or a new car. As we progress through our careers, earning a higher income, we continually take on more financial obligations becoming hand-cuffed to our jobs and our bills. By increasing your lifestyle every time your income increases you can get caught up on an endless treadmill, trapped with a lot of debt for a house and cars that may be more than you really need. I’m all for enjoying some of the benefits that come from all your hard work but it’s prudent to spend below your income. Avoid the temptation to live an extravagant lifestyle and compete with your neighbors, colleagues and friends. Instead, take pride in following a solid financial plan by saving for the future to achieve greater financial freedom.
As a rule of thumb, save or invest at least 10 – 20% of your income and maintain a buffer of 4 to 6 months of expenses to cover emergencies or a change in your ability to earn a living. Try to keep your housing expenses below 28% of your gross income; this includes your mortgage payment, insurance and taxes. Avoid systematically increasing your expenses. Give yourself some breathing room in case you want or need to make a career change. Save for the future and keep your options open. As your income rises automatically put a larger portion into savings and retirement.
To keep expenses under control, examine what is important to you and set some priorities. You have worked hard and you deserve some of the nice things in life but spend your money on things or experiences that genuinely make you happy. If you want a really nice house you may decide to spend less on vehicles, vacations and clothing. If you love taking extravagant vacations consider buying a smaller home and less expensive used vehicles. Never buy on impulse – always look for ways to save money on the purchase of things you decide are important to you.
Prioritize your spending to live below your means, save for the future and focus on what truly brings you joy.
Jane Young, CFP, EA
As the average life expectancy increases retirement is starting to look very different. We may be less likely to completely stop working on a fixed, predetermined date. As the traditional retirement age of 65 approaches many are considering a more gradual transition into retirement.
One advantage of easing into retirement includes the ability to supplement your cash flow and reduce the amount needed to be withdrawn from your retirement savings. If you continue working after 65 you may be able to earn enough to delay taking Social Security until 70. This will provide additional financial security because your Social Security benefit increases 8% per year from your normal retirement age to age 70. The normal Social Security retirement age is between 66 and 67.
Abruptly going into retirement can be very traumatic because careers provide us with a sense of purpose, a feeling of accomplishment and self-esteem. Your social structure can also be closely tied to work. By working part time before completely retiring, you can gradually transition into the new phase of your life. As you approach retirement age the grind of working 40 to 50 hours per week can become very trying. Working part time allows you to stay engaged with your career while taking some time to relax and pursue other interests.
According to a 2012 study by the Bureau of Labor Statistics, more people are working beyond age 65. In 2012 about 18.5% of Americans over 65 were still working vs. only 10.8% in 1985. A study reported by the Journal of Occupational Health and Psychology stated there are health benefits from working part time during retirement. This may be attributed to less stress and a more balanced life while experiencing the mental stimulation gained from continued engagement at work.
Gradually transitioning into retirement may be more practical for someone who is self-employed. However, the concept of phased retirement is a hot topic among human relations firms and departments. Phased retirement programs usually involve working about 20 hours a week with some element of mentoring less experienced workers. Formal phased retirement programs are still rare but they are gaining popularity. A 2010 study by AARP and the Society for Human Resources Management found that about 20% of the organizations polled had a phased retirement program or were planning to start a one. In fact, the federal government just launched a phased retirement program.
Before signing up for a phased retirement plan, take steps to fully understand the impact it may have on your benefits. If you are under 65 there may be restrictions on your health insurance. Additionally, some pension calculations are based on your final years of salary, working fewer hours at this time could negatively impact your benefit. Also avoid situations where you are only paid for 20 hours a week but still work 30 or 40 hours to get your job done.
Jane Young, CFP, EA
Emotions may be the single biggest detriment to your investment success. We try to approach investments from a logical perspective but we are emotional creatures and money can stir-up intense feelings. The most common emotions are fear and greed which can lead us to overreact and sell low when the market is down and buy high when the market is at a peak. Both actions are harmful to the performance of your investment portfolio. We can’t ignore emotions but we can better understand our emotional triggers and learn how to manage them.
You can minimize emotional reactions to fluctuations in the stock market by creating a plan. With some planning you can establish a diversified asset allocation that incorporates your investment timeframe, financial goals and tolerance for risk. A well designed asset allocation can ensure that money needed in the short term is placed in safer fixed income investments while long term money is invested in higher return, higher risk investments like stock mutual funds. As a general rule, money needed in the next five years should not be invested in the stock market. If you position your short term money in safer, less volatile investments such as money markets, CDs and bonds, you will be less likely to overreact and act on emotion.
When you invest in the stock market prepare yourself for volatility including some years with negative returns. Over long periods of time, the average return in the stock market has been around 9%, much higher than the average return for fixed income investments. However, stock market returns are not level. In some years, stock market returns will be higher than average and some years they will be lower than average. If you are prepared for this and maintain a long time horizon you will be more likely to stay on course.
Be wary of sensational news reports that claim the world is coming to an end and everything is different this time. The stock market goes through cycles and there will always be scandals, bubbles and crises getting blown out of proportion by the media, financial pundits or financial companies trying to sell you something. An example of this is commercials that use fear tactics to encourage you to buy gold and silver. They prey on the fear and uncertainty investors experience during a significant market drop.
Buying on emotion can also be detrimental to the long term performance of your portfolio. We have a natural fear of missing an opportunity. Avoid chasing the latest hot asset class or following the crowd because you don’t want to miss out. Assets performing well this year may be next year’s losers and investments with abnormally high returns aren’t sustainable. Don’t get swept up in the euphoria, keep your portfolio diversified where assets that perform well this year can buffer against those that aren’t performing well.
Slow and steady wins every time!