TOP 4 RETIREMENT MISTAKES

In the late 1970s, Congress passed the Revenue Act of 1978 which created section 401(k) of Internal Revenue Code which opened the door to the popular 401(k) programs available in many companies today. The unintended consequence of this new law was that the responsibility for creating retirement assets began to shift from the company to the employee.  This new act also neglected to address the reality that many individual employees were not knowledgeable or skilled to make investment decisions. As a result, many mistakes have been made by employees. This was partly resolved in later years by providing company provided educational programs. Yet, today, the burden of retirement preparation and planning rests on the individual.  As a result, it is becoming normal for individual investors to work with CERTIFIED FINANCIAL PLANNERS ® (CFP). Investment advisors whom also provide solid financial planning services can shift the weight of responsibility so that the firm and the individual partner together to support overall retirement success. For this reason, Lighthouse Financial has provided four mistakes that individuals make when planning for retirement.

1. Not Factoring for Longevity

Americans are living longer, healthier lives than ever before. Overall, the gains in medical care and technology have proven to have enormous benefits for the American society. The bad news is that most Americans do not plan accordingly for longevity in retirement. Nearly half of Americans greatly underestimate their longevity by five or more years 1. Consequently, many assume they have plenty of assets to retire, but find themselves outliving their retirement funds and unable to meet their end-of-life needs.
The chart to the left demonstrates the percentage of men and women who are living to the age of 90. It’s safe to have a plan that will cover your retirement needs for at least 20 years and more conservatively, 25 years.

2. Forgetting to Account for Inflation

Along with failing to plan for longevity, many Americans also forget to account for inflation when planning for retirement. In 2021, the core inflation rate rose to 3.8%. This is higher than past years and the largest increase since 20082. Throughout retirement, inflation will play a significant role in sustainability. According to the Consumer Price Index (CPI), many expenses tracked for inflation may be items that do not inflate as quickly, such as electronics or clothing. However, seniors tend not to spend their money on these items. In reality, the things that most purchased by seniors, such as food, fuel, medical care, insurance premiums, and long-term care, will inflate at a much higher rate. As a result, the inflation rate for seniors is predicted to be much higher than the inflation rate of the typical consumer, making it a crucial factor when planning for retirement.

The chart to the right shows the impact of what a 3% inflation rate has on retirement. This example illustrates that a nest egg of $1,000,000 today is equivalent to a nest egg of $411,987 in 30 years.  Start early and plan appropriately for inflation.

3. Failure to Plan for Taxes

Whether people like to admit it or not, taxes tend to be our single greatest lifetime expense3. Merely having a large amount of cash in savings will not be enough to see many individuals through retirement. For example, even if a person has saved one million dollars in a 401(k) account, a large portion of those funds will be taxed once they are withdrawn from that account. Furthermore, an individual’s tax bill will be even higher should they choose to retire earlier than expected as they may have to pay tax penalties for withdrawing their money early. Lastly, without a clear understanding of the impact of distributions, you may find social security benefits taxed up to 85%.  Therefore, individuals must plan for both the total of the assets and the cost those assets will incur in taxes once they are withdrawn from the account.

4. Lacking a Holistic Approach to Finances

Proper financial planning will encompass financial considerations such as taxes, estate law revisions, current market conditions, new investment options, family dynamics, and a host of possible future changes. In reality, planning for a proper retirement requires a team of specialists to provide expertise and experience that support financial goal attainment.  As a fee-only wealth management firm, Lighthouse Financial offers a holistic approach through its Wealth Management Service.  This service helps clients succeed in every area of their economic life, from investment management to financial planning and tax services. The firm’s team of professionals can take complicated situations and find simple, easy-to-understand, solutions that empower clients to select best-fit options for their unique circumstances.

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Sources:

Updated and Restatement of a Lighthouse Financial Blog, first published on 2/27/2017. Top Four Financial Planning Mistakes and How to Avoid Them. Located in LF.

Life expectancy image provided by Kent University, June 28, 2018. https://onlinedegrees.kent.edu/college-of-public-health/community/life-expectancy-and-public-health , retrieved June 14, 2021

1 Ebeling, A. (Aug. 10, 2012) Americans Clueless About Life Expectancy, Bumbling Retirement Planning. https://www.forbes.com/sites/ashleaebeling/2012/08/10/americans-clueless-about-life-expectancy-bungling-retirement-planning/#408340805348. Retrieved 6/14/2021.

2 Amadeo. K. (6/10/2021) Current Rate-May 2021. https://www.thebalance.com/current-u-s-inflation-rate-statistics-and-news-3306139. Retrieved 6/14/2021.

3 Menton, J.. (4/1/2021). IRS tax season 2021: How much will you pay in taxes over a lifetime? https://www.usatoday.com/story/money/2021/04/01/irs-tax-season-2021-how-much-do-you-pay-taxes-over-lifetime/7016671002/ Retrieved 6/14/2021.