One thing we all have in common when it comes to retirement is the desire to be financially secure. After having spent decades in the workforce, we want to be able to relax and enjoy our lives.
But how do you know if you’ll have enough money to get by on? How can you be sure the not very large amount you have saved will be enough to live off of?
Financial planners often suggest that you replace about 80% of your pre-retirement income. But the actual amount you need will depend on your standard of living, your life goals, and whether you have debt to pay off. An amount of income in line with the U.S. average could do the trick. Or you might have to work and save more to meet your lifestyle plans.
The Average Retirement Income in America
According to the U.S. Bureau of Labor Statistics, average pretax income for a household headed by someone ages 65 through 74 was $65,943 in 2019, the latest year of data available as of August 2021. But as individuals get older and move further into retirement, income tends to fall a great deal. For households headed by someone 75 or older, average pretax income was just $41,937.
To reach “ideal” financial security, the average American should receive retirement income from three main sources: Social Security, a defined-benefit pension plan, and a defined-contribution account, according to the National Institute on Retirement Security (NIRS). But an NIRS report shows just 6.8% of Americans receive income from all three sources while 40.2% receive income only from Social Security.
Additional sources of income can include part-time work, side hustles, and less common sources like inheritances.
As of January 2021, the estimated average monthly Social Security benefit is $1,543, or $18,516 annually, after you account for the 1.3% cost of living adjustment that will add $20 to the average check this year.
The way in which companies offer retirement security has also changed in recent years, with new hires being less likely to receive income from a traditional pension, according to data from insurer Willis Towers Watson. Just 14% of companies on the Fortune 500 list offered a pension plan to new hires as of 2019, down from 59% in 1998. Over the same time frame, the percentage of Fortune 500 companies that offered only a defined-contribution plan, such as a 401(k) plan, more than doubled, from 41% to 86%.
Typical Living Expenses in Retirement
The average annual spending for a household led by someone 65 or older is $50,220. But as with income, spending is much lower for older retirees. Households led by someone between the ages of 65 and 74 had average spending of $55,087 in 2019, compared to average spending of $43,623 when the householder was 75 or older.
Perhaps the largest cost seniors should prepare for is health care. Fidelity estimated in 2017 that a 65-year-old couple who planned to retire in 2019 would need an average of $295,000 for health care costs in retirement. That estimated cost was associated only with Medicare and didn’t account for expenses related to dental, assisted living, or long-term care.
As health care costs will likely make up a large portion of spending in retirement, retirees should budget about 15% of pre-tax income for medical expenses.
On the other hand, other kinds of expenses tend to decrease during retirement. Housing costs can be cheaper for seniors if they have paid off their mortgage, downsized, or moved to a lower-cost area. And transportation costs are lower if they used to have to commute to work every day.
Expenses like food, entertainment, and travel may go up or down, depending on whether they will be eating out more often and seeing places and doing things they may not have had time to when they were working.
How Do You Set a Retirement Budget?
The actual amount of income you’ll need depends on your standard of living, or the degree of wealth and comfort available to you. If you can survive without a car and you don’t dine out often or pursue expensive hobbies, you may be able to get by on a good deal less than 80% of your pre-retirement income. If you want to travel, contribute to charity, or gift money to children or grandchildren, you may need to replace more.
A standard rule of thumb is to use the 80% point as a guide and then factor in income, lifestyle, and health expectations to modify your budget. You can estimate your costs using a retirement planning spreadsheet.
How Do You Prevent a Shortfall?
The sooner you start thinking about your retirement goals, the easier it will be to create income sources to meet your needs. If you’re still years away from retirement, it’s best to take advantage of your company’s 401(k) match, as it’s a good way to start saving. If you don’t have access to an employer-sponsored retirement account or you have extra money to invest, try to max out your traditional or Roth IRA contributions. No matter what stage of life you’re in, learning how to make a budget that fits with your lifestyle can pay off by lowering your expenses over time.
If you’re approaching retirement with a shortfall and are at least 50 years of age, take advantage of catch-up contributions from the IRS, if you can. In 2021, you can contribute:
- Up to $6,500 to your 401(k)
- Up to $1,000 to your IRA
- Up to $3,000 to your SIMPLE IRA, if applicable.
When you need more retirement income, you may consider claiming Social Security later in life, rather than when you’re eligible at age 62. Claiming Social Security at 70 years old, for example, can result in a monthly check that’s 77% more than the benefit you would have gotten if you had started receiving benefits at 62—a difference of $545 each month.
Saving pre-tax money in a health savings account while you’re still working can be a good way to save for those inevitable medical expenses in retirement. Downsizing your home or taking on side hustles are also things to think about.
Plan for Your Future
Investing for your future early always pays off because you get to take advantage of compound interest and feel more financially secure from a young age. But even if you’re getting a late start, there are ways to generate more retirement income. Using catch-up contributions, delaying Social Security, and working part-time may all be good options for you to increase your retirement income above the average.