Investing for the Long Term: Retirement Planning
Time Horizon and Risk Tolerance
2020 might go down in history as the year of canceled and changed plans, but it is almost over and 2021 is within sight. Kicking off 2021 with a few simple money management plans is a great way to turn over a new leaf, or build on previous saving successes. This week in our newsletter we’ll be bringing you a series of easy money-management tips to help get your year off to a good start. Today, we’ll discuss a few easy ways to save for retirement.
An important first step in making a retirement saving plan is considering your timeline. If you are young and you plan to work for multiple decades before retiring, it probably makes sense to put a majority of your assets into riskier, higher-yield investments, like stocks. A longer time horizon not only gives your investments a chance to grow, but it means that you also have the time to ride out market downturns that may occur along the way.
On the other hand, if you are planning to retire soon then you have a shorter time horizon. A shorter time horizon means you may prefer to hold a greater proportion of less risky assets like bonds or cash and cash equivalents. These tend to be less volatile, so if the market drops, they are unlikely to drop with it.
Determine After-Tax Investment Returns
Be sure to calculate your after-tax rate of investment returns when planning for retirement. It’s probably most realistic to expect a required rate of return of 10% or less before taxes. As you get older and your portfolio becomes lower risk, this return will likely go down. This is because low-risk portfolios tend to be composed of low-yielding securities.
Depending on what type of retirement account you use, your investment returns are likely to be taxed. To have a clear picture of your income during retirement, it’s important to calculate the actual rate of return on an after-tax basis. A tax professional will be able to help you understand your specific situation.
Make a Budget and Expect the Unexpected
In planning for retirement, it’s also also a good idea to think about how much you plan to spend as a retiree. Often when people create retirement budgets, they expect to spend 70%-80% of what they spent while they were in the workforce. However, each person’s needs are unique. If you hope to travel or make big purchases when you retire, it’s a good idea to budget for those to make sure you have the funds to make your plans realities.
It is also a good idea to leave a cushion in your retirement budget for unexpected expenses, like medical bills or repairs to your home or car. You might also decide you want to purchase a new home or help pay for a child or grandchild’s education once you are retired. Setting aside some money for unexpected expenses will help you be ready for all of life’s twists and turns.
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