The Wall Street Journal's Retirement-Planning Guide

By Glenn Ruffenach and Kelly Greene

April 1, 2008 

Few events in our lives can produce as much satisfaction—and as much anxiety -- as retirement. We fantasize about the day when we finally can walk away from the duties and demands of our jobs-- and wonder if we'll miss our friends at the office. We make lists of things to do in retirement- and worry whether our nest egg will be big enough to allow us to chase those dreams. We see ourselves aging gracefully in our home and the neighborhood that we love – and ask if poor health in later life will rob us of our independence.

The Wall Street Journal. Complete Retirement Guidebook teaches you:

• What decisions to make and which steps to take ten years, five years and one year before leaving full-time work.

• How to translate your interests into daily activities.
• Tips for investing wisely and working with the right financial adviser.
• How to maximize your benefits from Social Security.

If you find yourself with some or all of these thoughts, congratulations. You are perfectly normal. Survey after survey shows that most Americans are looking forward to retirement, but we aren't sure if we're ready or able to take the first step. In which case, it helps to have a plan.

This guidebook is just that: a blueprint for building a successful retirement. We'll show you how the various pieces -- retirement savings, Social Security, relocation, new careers, volunteer work, estate planning, health care, leisure and more -- come together as you create your plan for a personally fulfilling retirement.

BEFORE YOU OPEN THAT NEST EGG …

It's time to talk about money, which for many people elicits the most common and most vexing question in retirement planning: "Have I saved enough?" Whether you realize it or not, you've probably asked similar questions in the past: Have I saved enough money to buy a house? Have I saved enough money to put the kids through college?

Usually, the answer is, It depends. It depends on the size of the house you wish to buy and where it's located; it depends on whether the college is Yale or a public university. Yes, other factors certainly can affect the health of your savings accounts: inflation, taxes, investment returns, life expectancy and withdrawal rates from holdings. We'll address each of these. But unless you have a good idea about what you want to do in retirement and what that lifestyle might cost, questions about the size of your nest egg are beside the point.

Potential Cracks In Your Nest Egg

Once you've determined the particular life you want to lead in retirement and you're ready to begin your calculations, you need to know how to avoid the biggest mistakes Americans make with their nest eggs:

Timing. Many people dip into their retirement savings at age sixty-two—the age when you can first file for Social Security benefits. But as appealing as early retirement might sound, it could put considerable strain on your savings. For example, Do you still have a mortgage? Most financial planners recommend paying off as much debt as possible before tapping a nest egg.
The point is that delaying retirement for just two or three years could make a big difference in the size and stability of your nest egg. You could also give your retirement savings additional breathing room if your employer offers, or is willing to consider, a "phased-retirement plan" in which you reduce the number of hours you work but still draw a paycheck. A study at Cornell University found that 73 percent of employers were open to phased retirement, primarily on an informal basis.

Life expectancy. The big risk, of course, is that your savings will expire before you do. Combine several rough years in the stock market -- particularly early in your retirement -- with an aggressive rate of withdrawal from your investments and the nest egg you spent thirty years building could be gone in half that time. Several tools can help you estimate your life expectancy. But you often end up with an average life expectancy (an imprecise figure), and these tools don't usually consider joint life expectancy— the odds that one partner in a couple will live considerably longer than the other. Want a quick number for planning purposes? Expect to live to age ninety, at the very least; ninety-five is even better.

Taxes and inflation. One million dollars in a 401(k) is really more like $800,000 because of the 20 percent or so that might go to taxes. And don't assume that taxes will go down when you retire; when Social Security, pensions, 401(k)s and other savings are factored in, you might find yourself in the same or nearly the same tax bracket as when you were employed. Inflation, too, will chip away at your nest egg—faster and with greater effect than most people realize. Consider that a $1 million nest egg, with an annual rate of inflation of 3 percent, will have a value of only $737,000 after ten years. And some expenses, like health care, are rising faster than 3 percent. (Hospital costs alone have been increasing almost 6 percent a year.) In short, you must factor inflation (and ideally, different rates of inflation for different expenses) into your retirement budgeting.

Health-care expenses. When most of us think about threats to our retirement savings, we think primarily about investment losses -- damage from a tumbling stock market, for instance. But hazards such as big medical fees or the need for long-term care can cause as much harm to your nest egg as a volatile market.
Keep in mind that you'll likely be responsible for all your dental, hearing and vision expenses in retirement, as Medicare covers almost none of that. As noted, studies by Fidelity Investments indicate that Americans without employer-sponsored health coverage will need an estimated $215,000 to pay their medical bills in retirement. It's also important to know that Medicare and private insurance don't pay for most long-term care. A recent study by the Lewin Group (a consulting firm) and professors at Pennsylvania State University and Georgetown University projects that 37 percent of all sixty-five-year-olds will need long-term care in a nursing home or assisted-living facility. The good news is that most stays will be less than two years. The bad news is that about 11 percent of patients will be hit with costs of between $100,000 and $250,000; about 5 percent will face bills exceeding $250,000. The key here is to incorporate such projections into your household budget.

Working in retirement. If you're counting on continued employment to help pay the bills in retirement, you could be in for a nasty surprise. What if you can't work in retiremen or can work only for a few years? What if your health prevents you from working? What if you can't find the type of job you want? If 70 percent of boomers want to work in retirement, that means about 55 million people at some point will be scanning the help-wanted ads! And you thought the rat race was over. Though working in later life can be an emotionally and physically rewarding experience, don't assume that the opportunities—and a paycheck—will be there.

Saving money -- even in retirement. No, the numbers probably won't be as big as in the past, which is nice. But think about it: Emergencies have no respect for retirement; crises will continue to crop up. (A son or daughter loses a job, for instance, and looks to you for financial help.) And some expenses never go away: maintaining your house, paying for new appliances, looking after your car, etc.

Speaking of which, lots of people buy a new car before retiring, thinking that that vehicle will see them through their final years. Remember, there's a good chance you will live long enough to buy three or four cars. All of which means that you need to keep saving.

Withdrawals from nest eggs. Many people think they can pull as much as 7 percent or more from their retirement savings each year. The rationale is that if withdrawals are equal to the average return on investments, then the size of the nest egg will remain fairly constant. But that thinking is flawed.

For starters, annual returns are seldom "average." You probably have heard that the stock market returns about 10 percent a year, on average. That's true—if the calculations begin with the 1920s. But if you were a new retiree in 2000 and had pulled 10 percent from your nest egg each year, your savings—if any remained—would now be on life support.

A more realistic rate of withdrawal is about 4 percent. That figure is based primarily on research by William Bengen, a certified financial planner in El Cajon, California. In other words, if your retirement savings total $500,000, you could withdraw $20,000 the first year. Assuming that a good chunk of your nest egg (about 40 percent to 60 percent) remains invested in equities (to help your savings keep pace with inflation), a 4 percent rate of withdrawal means your nest egg has a good chance of lasting as long as you do.

Asset allocation. People tend to stay fully invested in stocks until "R Day" approaches, at which point there's a mad scramble to move into bonds and related investments. Instead of waiting until the last minute to diversify your holdings, do so gradually in the years leading up to retirement to avoid sudden or prolonged downturns in the market.

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