- Use the budgeting process to discuss retirement priorities with your partner.
- Try to match your essential expenses to guaranteed sources of income.
- Think about limiting withdrawals from retirement savings accounts to 4%–5% in your first year of retirement, then make adjustments for inflation in subsequent years.
Making a budget may not be the first thing you look forward to in retirement, but it's one of the most important things to do to start your retirement on the right path.
Along with an income plan that can deliver a steady "retirement paycheck" and an investing strategy that allows a portion of your nest egg the chance to grow, a realistic budget—based on all the sources of income you have coming every month—is always important.
Whatever the size of your nest egg, retirement will mean changes in your financial life. Your sources of income will shift versus when you worked, as will the profile of your expenses. And financial priorities often change as you move from saving for retirement to generating income from your hard-earned retirement savings.
"One of the biggest things I find with recently retired or soon-to-retire clients who haven't had a budget in the past is that they're relieved when we actually run the numbers," says Tom Magee, CFP®, a Fidelity financial consultant in Boston. "When we match up their sources of income with their anticipated expenses in retirement, in most cases the budgeting exercise confirms that their plan can work."
At the same time, Magee says that people who have been diligent about following a budget throughout their working years may need to adjust their approach when making a retirement spending plan. "Many people looking ahead to retirement overestimate their expenses," he notes, "while others may need to adjust to the realities of adapting to life on a fixed income."
If you're ready to begin putting together a retirement budget, here are some tips to help.
Think big picture
For many people, the budgeting process stalls before it really gets started. That's often because they worry about the details of their discretionary spending instead of looking at the big picture. Start by understanding your essential expenses (see the "Essential expenses" section below) and how you can use guaranteed sources of income, like Social Security, pensions, and annuities, to pay for them.
Then create your discretionary budget by focusing on categories of spending—such as travel, entertainment, and any charitable giving plans—rather than trying to account for every dollar you'll spend on coffee, personal care, or clothing. You'll have plenty of time to get more specific after you see how well the budget fits your actual spending patterns. Also consider matching discretionary expenses with income from individual retirement accounts (IRAs) and other tax-deferred retirement savings accounts.
To plan ahead, think about the life you want to live in retirement, then consider the financial requirements of that lifestyle within the context of your financial resources. You need to know the details of your recent spending patterns, and determine whether your overall spending will go up, go down, or stay the same in retirement.
To start, tabulate your average monthly expenses and know how much money is coming in versus going out. If you use credit cards, go online and look at year-end summaries to see where you spent money last year. Make note of any surprise categories of spending. Do the same with online bank statements.
Next, identify your ongoing monthly bills (like cable, cell phone, or landscaping/pool service bills) and determine whether you need to continue all these services. Then look through your past bills to identify work-related expenses (such as dry cleaning or fuel and transportation expenses) that you may no longer have to pay now that you're retired. Lastly, categorize expenses into "essential" and "discretionary."
Cover essentials first. Health, comfort, and security are among life's most important priorities, so you'll want to make them your budget priorities too. Make sure your budget covers health care, housing, and insurance—as well as daily living expenses, from putting food on the table to paying utility bills.
Health care: Planning for health care costs can be especially daunting with estimated costs for an average 65-year-old couple retiring in 2019 hitting a total of $285,000 (in today's dollars) over their entire retirement period. Even if you're covered by Medicare or an insurance plan from your former employer, premiums and out-of-pocket costs continue to rise. For help in budgeting for health care, read Viewpoints on Fidelity.com: How to plan for rising health care costs.
Housing: If your home is paid for, good for you! But don't forget to account for utilities, maintenance, and possibly larger home repairs. A good rule of thumb is to budget at least 1% of your home's value for annual maintenance. So, if your home is worth $400,000, then budget approximately $4,000 per year for standard repairs and general upkeep.
You may also want to include money for making accessibility upgrades, such as railings, ramps, or larger doorways, which may become necessary as you age. If you plan to live in a retirement community, be sure you understand the financial arrangements and monthly costs, if any, you'll be responsible for. Depending on the type of community, they could range from housekeeping fees to residents' association dues.
Transportation: No longer having commuting costs is a big bonus of retiring, but your transportation costs won't drop to zero. Most people don't retire to sit around the house, so remember to include the cost of gas or public transportation for trips to activities, as well as vehicle maintenance expenses. If you are considering buying a new or used car, add that expense too.
Food: Although you may not be eating out at lunch with colleagues, overall expenditures on food will likely not change much. Now that you're retired, it might be a great time to do some fun things like taking cooking lessons or entertaining for friends and family.
Once you have accounted for your "must-haves," you can begin budgeting for discretionary items, such as dining out, going to the movies, weekend excursions, and those bucket-list adventures you've been dreaming of.
Travel: How you budget for travel will depend on the types of trips you're contemplating—weekend getaways, long vacations, or visits to family and friends. For short jaunts, you can build a monthly expense into your budget, putting the money you don't use into an account for spending later. For longer vacations, you'll need to determine whether you have enough in savings to cover the trip without negatively affecting your retirement income plan. If not, you should add a vacation fund to your budget. If you are fortunate enough to own a vacation home, you should account for the cost of traveling back and forth to it. For their convenience, some retirees leave cars in different locales year-round, which, of course, is an added cost.
Entertainment/dining out/gifting: You probably already have a good idea of how much it costs to go to the movies and dine out, but many people forget to include money they use to buy gifts for family and friends for everything from birthday gifts to graduation and baby shower presents. If your budget allows for it, larger gifting priorities—such as giving money to future heirs to minimize inheritance taxes or contributing regularly to charities—should be part of an estate plan or tax-smart philanthropy strategy you craft with your estate attorney and tax advisor.
Stick to your income plan
A well-designed retirement income plan should be backed by an investing strategy that provides growth opportunities for your assets and helps your income keep pace with inflation. But investment returns will vary, and that, along with unexpected expenses, may require you to build some flexibility into your budget. One way to plan for the ebbs and flows of the financial markets is to express your discretionary spending as a range. That way, you can choose to put aside unspent money in months when your costs are at the bottom end of the range and use it during months when your discretionary spending is higher or your overall income is lower.
Fidelity suggests limiting withdrawals from retirement savings accounts to 4%–5% in your first year of retirement, and then adjusting this number higher for inflation increases in subsequent years. If you give in to temptation and outspend your sustainable rate, remember that it may have a cascading effect, because it can reduce the size of the nest egg that's available to generate potential investment returns over the rest of your retirement.
Communicate with your partner
Money issues can be a cause of significant strife in some marriages, even if the couple has been together for decades. "It's not surprising to find one spouse who lives for the moment while the other is still saving for that rainy day," says Ann Dowd, CFP®, a vice president at Fidelity Investments.
While disagreements about money can occur at any stage of life, they may be more pronounced in retirement, when couples move from living on income from a job to living on their retirement savings. "Not many people can live day to day on a strict budget," Dowd says. "However, creating an overall budget together can be an effective way for retired couples to identify shared goals and spending priorities."
But keep in mind that budgeting isn't just a numbers game. If you approach it with an open mind, it's a great opportunity to start a conversation with your spouse or partner about your priorities and dreams for retirement—both your individual goals and the things you want to do as a couple.
Remember to account for taxes too
During your working years, your employer was responsible for withholding income taxes and sending them to federal, state, and, perhaps, local government tax authorities. In retirement, if you have significant income from taxable accounts or other sources from which you do not have income tax withheld, you may need to make quarterly tax payments.
Then there are capital gains taxes if you sell securities or other assets at a profit. And if you're still in your home and plan to stay there, be sure to include real estate taxes in your budget. Some states and municipalities also levy an annual tax on major personal property, such as cars and boats.
Keep it simple
Remember why you retired—to have fun and do the things you never had time for when you were working! Finding ways to ease the burden of financial management is always a good idea, but it's especially important in retirement, when you're likely to spend more time traveling and pursuing your passions. One way to simplify may be to consolidate your retirement accounts with a trusted financial services provider, which enables you to organize your income, investing, and spending in one place while potentially reducing fees.
Although making a budget is one of those chores people tend to put off, it can be an essential contributor to feeling confident about your finances in retirement. If you need help, consider working with a financial advisor on your budget and overall retirement income plan.