Table of Contents
Part Three in my Planning for Retirement Series based on my How to Recreate your Paycheck in Retirement class.
Key Takeaway
Building an accurate retirement budget requires understanding both your current spending patterns and how those needs will evolve in retirement. This guide walks you through the practical steps to create a budget that reflects your real financial picture.
Part one covered why you need to invest for retirement: it’s likely to be longer than expected due to increased life expectancies and people often retiring sooner than planned, inflation erodes purchasing power during retirement, and we need portfolio growth on top of our savings to fund a long retirement.
Part two focused on figuring out how much you need to retire, which means determining a safe withdrawal rate from your investment portfolio, why the 4% rule is a good starting point, and how you can deviate from it based on your specific financial plan.
In Part Three, we’re looking at how you can accurately build your retirement budget even if you’re years away from retiring.
Tracking Your Spending
Step one is understanding how much you currently spend. Tracking your spending is an important practice, not just for retirement planning. As I explained in my book:
How do you know how much you’re spending and saving unless you keep track of it? How can you improve without a starting point? What spending categories contribute the most to your overall costs? You also need an accurate spending number to build a financial plan.
Track your expenses, at least temporarily, to know where your money is going.
Beyond the Basics: Maximizing, Allocating, and Protecting Your Capital
A key phrase there is “at least temporarily.” It’s time consuming and not something I do every year (much to my family’s relief). The tool I used to use and recommend – Mint.com – is no longer available. Here’s an easy way to manually do it:
- Going month by month, download your checking account activity into a spreadsheet (do it for each checking account you spend out of if you have multiple ones). Categorize the expenditures and subtotal each category.
- If you use Venmo, Zelle, or anything similar, open those apps and add the activity to your spreadsheet and categorize.
- The expenses for the credit cards you use can be deleted from the tracking sheet since those bills are based on transactions from the prior month.
- Instead, go to each credit card online and do the same thing you did with your checking account(s) and add those category totals to your sheet.
And there you have it: Your annual spending.
Make Adjustments to Your Retirement Budget
You have what you spend currently, but that’s not what your retirement budget will be. Time to make some adjustments. Your retirement spending will likely differ significantly from your current expenses. Understanding these differences now helps you plan more accurately for the future.
Expenses That Will Decrease or Disappear:
- Delete payments for mortgages and other loans that will be paid off in retirement.
- Delete or reduce payments for insurance policies you will no longer need if financially independent, such as life and disability insurance policies.
- Eliminate or reduce expenses related to work.
- Reduce expenses in categories related to your kids becoming independent.
Expenses That May Increase:
- Add new categories or increase expenses in categories to account for things you’d like to do in early retirement.
- Treat health care costs differently than other categories and at a level more than current insurance if you or your spouse retire before 65.
Frequently Asked Questions
How far in advance should I start tracking my spending for retirement?
Ideally, start tracking at least 5-10 years before retirement. This gives you time to identify spending patterns and make adjustments to your savings strategy if needed.
What percentage of my pre-retirement income will I need in retirement?
While the common rule of thumb is 70-80% of pre-retirement income, this varies significantly. Some retirees need more due to travel and healthcare costs, while others need less without work expenses and mortgage payments. Your actual tracking provides the most accurate picture.
Should I include healthcare costs in my retirement budget even if I have insurance?
Absolutely. Healthcare costs typically increase in retirement, and you’ll need to account for Medicare premiums, supplemental insurance, out-of-pocket expenses, and any coverage gaps before age 65. Budget conservatively for these expenses.
How often should I update my retirement budget?
Review and update your retirement budget annually, and whenever you experience major life changes (kids becoming independent, paying off mortgage, health changes, etc.). This ensures your projections remain accurate.
What if my actual spending in retirement differs from my budget?
It’s normal for actual spending to differ from projections. Build flexibility into your plan with a contingency buffer of 10-20%. Monitor your spending in the first few years of retirement and adjust your withdrawal rate accordingly.
