How will rising life expectancies change your retirement plan?
24 July 2006If you’re already near retirement, you don’t have all that much to “worry” about. Life expectancy probably isn’t going to change so much for you that you’ll be “forced” to live longer and longer.
For people under 40 or so, however, this is a big concern. Not in the sense that you are worried about living longer - but in the sense that if you want to quit your job at 65, you will have to have a lot more money saved up. The reason is that most retirement plans assume that you gradually deplete your principal over the years. You aren’t planning to just live off the interest, you’re planning to spend your money off over time. As an estate law professor once told me, the best estate plan is one that leaves you with exactly $0 in your bank accounts when you die.
Unfortunately, those plans may not continue to work in the future. Medical advances are adding more and more years to our life. Right now, most people will only live 10-15 years after retirement. However, Ken Dychtwald took a look at the trends and noted:
But today’s life expectancies reach well beyond the 70s. Most of us will see 80, and millions are expected to live past 100. This is unprecedented longevity, and it changes the financial preparation equation in a big way.
How much more savings will our longer lives require? Mutual-fund firm T. Rowe Price took a crack at that question. The firm’s conclusions are hardly surprising, but nonetheless instructive in that they show the degree to which living longer — without working longer — requires additional savings.
T. Rowe Price assumed that all savings were parked in a 401(k) plan, broadly diversified among stocks and bonds, and that inflation would average 3 percent a year. The firm further assumed average historical rates of return, annual pay of $40,000, plus raises equal to inflation, and that you’ll need 70% of your final year’s income.
Doing the math revealed that if you retired today at age 65 you would need total savings of just over $200,000 to have enough money to support yourself for five years. But you’d need nearly $1 million for the money to last 25 years. Even adjusted for inflation, that’s a far larger nest egg than your grandparents needed.
And he might even be underestimating it for someone who is currently in their twenties or thirties. The maximum human lifespan is thought to be around 140 without changing the physical way the body works. If medical advances allow people to start living that long, meaning you need to save for 30 or 40 years instead of 25, you will need quit a bit indeed.
Dychtwald concludes that the best option is to take a part-time job until you are in your mid-seventies so that you don’t spend your money quite so quickly. For many of us, though, that’s a depressing thought. You’re already supposed to cut your spending down to 70% of your old income - and now you work until you’re 75, too?
My suggestion for anyone younger who is currently planning their retirement would be to keep a separate fund from the one they plan to retire on - sort of a “post-retirement” fund. Most young people thinking about retirement at a young age are planning on retiring early. They figure that if they get $1 million or so saved up, they will be set for life. If life ends up being a lot longer than expected, however, they may not be. I would modify my plan to put aside another $50,000 to $100,000 in an S & P index fund to sit and grow while you are retired. If, 20 years after you retire, you find out that you’ll be living another ten years, you’ll have a big chunk of extra funds to help you out. If you don’t, then it’s something to give to your kids or a charity when you die. Think of it as the guarantee that you won’t be dragged back into the workforce.
I’m not sure Dychtwald’s plan to work after retirement is entirely bad - for those who enjoy their jobs, it’s a great idea. But not all of us do, and for some of us it’s not the job itself as much as the constraints it imposes - you can’t go to France or go fishing when you want because you have to be a certain place each week. My advice on this front would be to try to find a hobby that can supplement your income. Technology won’t just make us live longer. It’s also making it easier to make money off your hobbies, however unusual. Learn to woodwork or make something unusual and sell it on E-bay. Become a part time writer. Take up photography and license your work out as stock photos. You don’t have to make a fortune - just enough so that you can work when you want, on your terms.
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2 Responses to “How will rising life expectancies change your retirement plan?”
July 31st, 2006 at 1:02 am
[...] How will rising life expectancieschange your retirement plan? [...]
August 4th, 2006 at 2:13 pm
[...] I’ve written about the effect that rising life expectancy has on your retirement before, and today CNN Money has an article along similar lines: a person wrote in to them with a letter stating that he was “not going to plan on living beyond 85. That just seems iffy at best.” [...]