Creating a Retirement Budget: Practical Tips for Managing Expenses and Living Within Your Means
Running out of money is among the biggest concerns facing retirees. It could happen to anyone. No one knows what the future holds when it’s time to start planning for retirement. The best thing savers can do is create a budget as part of their financial planning efforts. A solid retirement budget considers all income streams, expected and potential expenses, and lifestyle. Perhaps more challenging than drafting the budget is following it. Here are some tips for establishing a retirement budget and living within those means.
Set an Income Goal
The first step to building a retirement budget is setting an income goal. A popular rule of thumb is to estimate 70-80% of annual pre-retirement income and divide by 12 to get the monthly base. This model is predicated on the idea that some expenses will drop in retirement. This isn’t always the case, and spending among retirees usually follows a similar pattern with expenditures rising in early retirement however, for budget-setting purposes, this is a good place to start.
Identify Income Streams
Once an individual establishes an income goal, the next step is determining where the money will come from and how big the disparity is between the target and the reality. Social Security is an important income source in retirement, but it only replaces about 40% of the average retiree’s annual pre-retirement earnings. Savers can estimate their benefits using the calculators on the Social Security Administration’s website. Most retirees need additional income. The Federal Reserve Board reported that 80% of retirees had one or more private income sources in 2023. [1] Here are the most common sources of income in retirement.
- Social Security
- Pensions
- Retirement accounts
- Investments
- Part-time work
Estimate Retirement Expenses
Ideally, retirees will have fewer bills than before and little to no debt. This may not be true for everyone. Individuals should know whether large expenses such as housing will be part of their retirement budget, consider how long that cost is sustainable, and explore solutions for eliminating it over time. The cost of living in a particular location, lifestyle, and inflation also affect retirement costs and should be budgetary considerations. Separating expenses into two categories, essential and non-essential, will isolate how much money is needed to cover necessities and what is left for disposable income. Here are some essentials to include in the budget.
- Housing: mortgage or rent, utilities, maintenance, property taxes, and insurance
- Healthcare: Insurance premiums, out-of-pocket costs, prescriptions, eyewear, and medical supplies
- Food: Groceries
- Clothing and personal care items
- Transportation: Car payments, insurance, fuel, maintenance, and public transportation
- Insurance: Health, life, and long-term care
- Taxes: Property taxes, income taxes, and other applicable taxes
Living frugally is wise for retirees on a fixed budget, but the best budgeting scenario builds in funds for incidentals and discretionary spending. These are the things that bring enjoyment and enhance the quality of life such as:
- Travel: Vacations, weekend trips, visits to family
- Hobbies: Golfing, gardening, crafting
- Entertainment: Movies, concerts, museums, dining out, and other recreational activities
- Gifts and donations: Presents for family and friends and charitable donations
- Gym membership: Fitness and recreation centers, tennis clubs, swimming pools
- Subscription services: Streaming services, meal and cooking kits, news and app subscriptions
There are several budget models such as zero-based, where a 1:1 ratio of income and spending equates to zero, and 50/20/30, which represents the percentage of money to allocate toward needs, wants, and savings respectively. No matter the model, every budget should contain a savings bucket for unexpected expenses or an emergency.
Create a Retirement Budget
With income and expense information savers can use a spreadsheet, budgeting tool, template, or a simple notebook to create a budget. A financial advisor can help investors plan distributions carefully and maximize tax advantages. The budget should not rely on distributions that are so large that they deplete savings and stop investment growth. Theoretically, a portfolio continues to grow with proper management.
Test the Retirement Budget
Once an investor designs the budget, the next logical step is to take it for a spin. Individuals should track their spending and adjust their budget as necessary. There are plenty of apps and tools to help savers stay organized.
For some, spending within the confines of a financial plan can be the biggest challenge. Here are some tips for staying within budget.
- Prioritize needs over wants—Essential expenses should take precedence over discretionary. Healthcare, housing, transportation, and food are most important.
- Downsize—A smaller home or moving to an area with a lower cost of living can reduce expenses and free up money for other needs or wants.
- Embrace frugality—There are many ways to save on everyday expenses, including coupons and countless discounts available to seniors. Cooking and entertaining at home can save money as well.
- Delay major purchases—Save and plan for major purchases rather than using credit or depleting portfolio savings.
- Stay healthy—Healthcare is one of the most significant expenses in retirement. By taking preventative measures to maintain health through diet, exercise, and routine doctor’s visits, investors can help reduce future medical costs.
- Plan for inflation—Inflation can erode financial plans and purchasing power. Savers should consider investments with inflation protection and discuss regularly with a financial advisor who may have tips for added security.
- Seek professional advice
By creating a retirement budget and working with discipline to live within that framework, investors can enjoy a secure and comfortable retirement. A financial advisor can provide personalized advice and help manage retirement savings with professional insight about risk, tax ramifications, and more. Click here to schedule a complimentary review of your finances with SHP Financial today.
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