Choosing when to retire is one of the single most important financial decisions we make in our lives. The decision has a lasting impact on our ability to have a comfortable retirement, and, less obviously, it shapes our pre-retirement behaviour long in advance of retirement itself. Knowing when we plan to retire helps determine how much money we need to save and our standard of living in the meantime.
Unfortunately, our retirement plans are often wrong, and that can wreak havoc on our finances. For example, someone who expects to retire at 65 may end up actually retiring at 63. This happens for a variety of reasons—including health issues and job changes—but the impact can be severe: fewer years of saving combined with a greater need in retirement.
On the other hand, when people have insufficient retirement savings, delaying retirement has become the standard solution.
Delaying retirement is turning out to be an attractive fallback plan that can improve your retirement outcome.
It does four things; it gives you..
- One more year to save for retirement
- One more year for your assets to grow
- One less year to plan for retirement
- One more year to delay claiming Social Security
As mentioned earlier, the reverse is also true. If you retire early, it can really negatively affect your retirement outcome. So, if you are planning to retire at the age of 65 and you retire at 62, retirement becomes a lot more expensive.
But planning to delay retirement may not be the life raft it seems to be, because it doesn’t always translate into reality. It’s not a straightforward calculation either—it is difficult to predict when a specific person will actually retire.
In a new paper, David Blanchett, Morningstar's head of retirement research, analyzes the gap between when people think they will retire and when they actually do.
His findings suggest that given this uncertainty around retirement age, some investors may need double their current savings to achieve their retirement targets. A person’s retirement age is simply too unpredictable, and we must plan accordingly to help avoid negative surprises.
On average, the best formula for this gap--between our intended retirement age and actual--is this: Subtract 61 from the planned retirement age, then divide by 2. For example, people who expect to retire at 65 will most likely actually retire two years early, at 63. People who plan to retire at 67 will likely actually retire three years early, at 64. Those who plan to retire before 61 often misjudge in the other direction (retiring later than expected), but they are a smaller portion of the population.
Steve Wendel, Morningstar’s head of behavioural science, points out to a scary prospect when it comes to retirement: surviving on much less money during retirement than you are used to living on or not being able to afford a retirement at all.
Based on his study, Wendel suggests will help you succeed in retirement:
- Multiple levers are available to improve this outlook, such as delaying retirement, contributing more to one’s savings, lowering one’s expectations for retirement. Individually, each will require extreme action – like a 10-year delay in retirement. But when combined, they can be tremendously effective.
- Personalized advice is quite essential. Stop guessing. Don’t go for generic savings rates. You may end up paying a stiff price for not having advice tailored for their needs.
- Beware of simple rules of thumb like “older people need asset allocation, and younger people need contributions.” In his study, Wendel found that among older, mass-affluent American households (ages 45 to 60), asset allocation is still the least impactful lever. Delaying retirement and cutting one’s expected standard of living matter most, in the extreme. The financial picture and most powerful tools to improve it are actually quite similar for younger (ages 25–40) and older populations, on average.
