When planning for retirement, don’t forget inflation

Retirement columnist Glenn Ruffenach also answers questions about budgets and Social Security benefits.

  • By Glenn Ruffenach,
  • The Wall Street Journal
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Q: Your recent column about calculating how much money a person needs to save for retirement didn’t seem to address inflation. What is a good way to plan for inflation over our retirement years?

A: An important question. I think many people approaching retirement understand that inflation, at some level, poses a threat to their financial health. (A study several years ago by the Society of Actuaries found that 71% of preretirees were “very or somewhat concerned about inflation risk.”) The key, of course, is taking steps to mitigate that risk.

Some basics. Since the early 1900s, inflation in the U.S. has averaged just over 3% a year, according to InflationData.com. That figure might seem…tolerable, especially if you consider that inflation during the 1970s averaged 7.25% annually. But even a long period of modest inflation can significantly erode the purchasing power of one’s nest egg, notes Tim McMahon, editor of InflationData.com.

For instance, inflation averaged 2.46% a year between 1990 and 2018. Sounds fairly “low.” Even so, you would need just over $2,000 today to buy what $1,000 would have bought in 1990.

The point: If you’re using a calculator or software to help with retirement planning, and if you’re asked to enter an expected rate of inflation for retirement, the smallest figure you probably want to use is 3%.

(Yes, there is something called the “10-year break-even rate,” a widely watched bond-market gauge of expected annual inflation over the next decade. Of late, that figure has been hovering at or below 2%, according to the Federal Reserve Bank of St. Louis. You might be inclined to use this heartening figure in your planning—but chances are your retirement will last 20 or 30 years, not 10.)

The best strategy to cope with inflation in retirement is to assemble a diversified mix of investments (think: index funds) that, ideally, will grow in value over time and outpace rising expenses. As we’ve noted in earlier columns, try to delay claiming Social Security; your monthly checks will be larger, and those payouts are adjusted annually for inflation. As we’ve also discussed, a prudent rate of withdrawal from savings—preferably no more than 4% the first year of retirement, and then that amount adjusted annually for inflation every year after that—will help, as well.

Beyond these basics, there are individual investments—rental property, inflation-adjusted annuities and inflation-adjusted Treasury bonds, among others—that, as their names indicate, are designed to keep pace with inflation. A good financial planner can help you determine whether you need such products in your portfolio and how big a role they should play.

Q: You have mentioned, in several columns, the importance of drafting a budget before retiring. Any specific tools that can help with this? Any recommendations?

A: A good, simple way to start is with expense worksheets.

Vanguard, for instance, offers a “Retirement expenses worksheet,” although the 31 categories could help just about anyone interested in creating a budget. Go to investor.vanguard.com and, under “Advice & Retirement,” click on: “Calculators & tools.” AARP has a nice worksheet for budgeting as part of its “Action Plan” to get your finances in order. Go to aarp.org and search for: Finances 50+ Resources. And if you’re comfortable with Excel, Vertex42.com offers a number of free budget spreadsheets.

Finally, three services—Mint (mint.com), Personal Capital (personalcapital.com) and You Need a Budget (youneedabudget.com)—can help with budgeting, as well as managing your money. Mint is free, as is Personal Capital’s budgeting software. (There’s a charge for the latter’s wealth-management services.) You Need a Budget, after a free trial, costs $83.99 a year. Note: You must be willing to commit some time and effort to get the full value of these applications. But the exercise is well worth it.

Q: I’m confused about the rules involving Social Security and divorced spouses. My ex-husband is 60 years old. I am 62. Can I file for benefits now based on his work record?

A: No, you wouldn’t be able to do this.

To start, most workers must be at least 62 years old to file for Social Security. (Exceptions include survivors and people with disabilities.) That requirement holds true for divorced spouses, as well. To be more specific, the rules state that—before you can claim benefits as a divorced spouse—you must be 62 or older and your ex-spouse must be “entitled” to Social Security. In your case, your former husband (I’m assuming he isn’t disabled) will become eligible for benefits in about two years, and that’s when you would first be able to file for benefits as a divorced spouse.

It’s important to note that your ex-husband simply has to be “entitled” to benefits; he doesn’t have to file for, or collect, Social Security in order for you to claim benefits. But if your former husband hasn’t applied for Social Security, you must be divorced for at least two years before you can claim benefits on his work record.

A final twist: Be careful about Social Security’s “earnings test.” If you file for benefits as a divorced spouse and are still earning a paycheck—and if you haven’t reached your “full retirement age,” as defined by the Social Security Administration—the agency could withhold, at least temporarily, some, or all, of your benefits if your earnings exceed certain levels. (That’s the earnings test.)

This caveat and others (example: your marriage had to last 10 years or longer for you to qualify for benefits as a divorced spouse) are spelled out fairly clearly on the Social Security website. Go to socialsecurity.gov and search for: If You Are Divorced.

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