How to Estimate and Manage Your Retirement Expenses

When you think about the life you want to live in retirement, do you also think about what it might cost? Whether you plan to fill your passport or you envision more leisurely lunches and pickleball games, retirement can be expensive and the bills (unfortunately) don't stop coming. Let's look at how you can get a handle on retirement expenses today and manage them wisely tomorrow.

WHY UNDERSTANDING RETIREMENT EXPENSES MATTERS

Today, Americans at age 65 can expect to live an average of nearly 19 more years. That means you could spend two decades in retirement – but possibly much longer. And the longer your retirement lasts, the further your savings will have to stretch. It’s no wonder 58% of people saving for retirement – including retirees – cite outliving their assets as their number one retirement fear.

Longevity is just one of the major risks to your retirement savings. Inflation is another concern that’s become top of mind for many retirement savers, especially with big spikes in recent years and uncertainty about what’s to come. You've likely seen the impact of inflation on your everyday spending in the short term. Now think about how it could erode your purchasing power over 20 or 30 years as the cost of living and expenses like health care continue to climb.

Not only will your money need to last long and fend off inflation, you’ll also be adjusting from life with a regular paycheck to drawing from Social Security, retirement accounts and other savings. One rule of thumb is to plan to replace about 80% of your pre-retirement income in retirement. But this is not a hard and fast rule, and everyone’s retirement looks different. Underestimating your spending needs in retirement could mean having to downsize the retirement lifestyle you planned for.

COMMON RETIREMENT EXPENSES TO PLAN FOR

In retirement, some of your expenses may remain steady (or at least in the same ballpark), while others could rise or fall, depending on your needs, lifestyle and what life throws your way. Here’s a rundown of the expenses you should plan for:

Housing

Costs can include mortgage or rent; ongoing maintenance, repair and lawn care; and in certain communities, homeowner association, condo or co-op fees. Even if you've paid off your home, you’ll still need to pay for insurance and property taxes, which can rise unpredictably from year to year.

Health care

While estimates depend on the type of coverage you have, one study projects a healthy 65-year-old couple retiring in 2024 to spend more than $600,000 on health care expenses in retirement. Even though part of Medicare (Part A, Hospital Insurance) is premium-free for most people, you’ll pay premiums for other parts – with vision and dental often being an additional surcharge – along with out-of-pocket costs. Then there are potential long-term care expenses, which aren’t typically covered by Medicare.

Daily living

You’ll still need to account for regular expenses like groceries, utilities, personal care and subscriptions. Some costs, however, could dip after you retire – like transportation if you commuted to work or clothing if you had to spend money on professional attire.

Lifestyle

This is a wild card when it comes to expense planning. Because how much you spend depends on how you want to spend your time. But even activities like travel, dining out and hobbies can have a wide range of costs. Do you insist on four-star accommodations or are you OK with budget hotels? Chic restaurants or cheap eats? Do you picture yourself teeing off on the golf course or tinkering around the garden?

Insurance

If you continue to own a car and a home, you’ll need to pay for auto and homeowners insurance (stay covered even after you pay off your mortgage and it’s no longer required by a lender). We mentioned premiums for some parts of Medicare, but you also might opt for Medicare Supplemental Insurance or Medigap. This is coverage you can buy from a private health insurance company to help pay Medicare out-of-pocket costs. Other insurance costs in retirement may include long-term care insurance and life insurance, especially if you own a permanent policy.

Taxes

We touched on property taxes when we covered housing costs. One of the biggest tax impacts you’ll face in retirement, however, may come when you take withdrawals from traditional IRA and 401(k) accounts. Remember, these accounts earned you a tax deduction when you contributed to them, but you'll pay taxes when you take money out. Need to figure out a tax-efficient withdrawal strategy? We can help.

Debt payments

Many retirees carry debt into retirement – and it’s not necessarily a bad thing, especially for something like a reasonable mortgage. It’s important though, to factor any debt payments into your expense planning, including credit cards, personal loans and even remaining student loans (yes, they can last that long).

HOW TO ESTIMATE YOUR RETIREMENT EXPENSES

Now that you know what kinds of costs to expect in retirement, it’s time to get more personal: What will your expenses look like? A few tips to help you form a clearer picture:

• Take inventory of all your current expenses. Then think about how they might change when you retire. Will some of them go up, go down or go away? Are you planning to downsize your home or move to a less or more expensive area? It could make a big difference in the cost of your retirement.
• Factor inflation into your cost estimate. Of course, we don’t know what the future holds for inflation rates. But using 3% to help plan is a reasonable rate that’s in line with the average over the last 10 years. If you want to be conservative, you could always go with a higher rate.
• Consider not just recurring monthly expenses but also major one-time outlays you expect during retirement. Relocation to a new home. A new car. Your child’s wedding. A once-in-a-lifetime family trip. All of these could impact your total retirement costs.
• Use online tools to make running the numbers easier. You can find a variety of calculators and worksheets on the internet to help you project retirement expenses, determine how much you need to save and track your progress.
• Talk to a professional. There’s no substitute for working with an experienced financial advisor who can help you map out your retirement expenses and income needs.

TIPS TO CREATE A RETIREMENT BUDGET

Managing spending in retirement will require the same discipline needed to save for retirement – and for that, a budgeting strategy can help.

One approach that’s common for retirement savers is the 50/30/20 rule, where 50% of your take-home pay goes to your “needs,” 30% to your “wants” and 20% to goals like saving, investing and debt reduction. You can easily adapt this model for spending in retirement. So, 50% of your monthly retirement income would still cover essentials like housing, food and health care. While 30% would go toward the fun stuff – travel, dining out, hobbies and entertainment. The 20% slice can now be used for things like boosting cash reserves for emergencies or short-term needs, giving to charity, creating a long-term care fund or paying for those bigger one-time purchases.

This is just one approach. No matter which strategy you employ to manage expenses in retirement, make sure to prioritize the “need to haves” while still making room for fun and having a buffer for the unexpected. And check in with your budget each year to make sure it still aligns with your retirement income, expenses, goals and lifestyle.

HOW RETIREMENT EXPENSES CHANGE OVER TIME

One more thing to consider as you plan for retirement expenses: Your needs and spending habits tie closely to your health and will probably change as you get older.

You can look at retirement as three phases:

The go-go years

Early in retirement, you’re likely to be active and in good health and spend more on travel, entertainment and new hobbies. You can also keep saving during this time, before required minimum distributions from some accounts kick in.

The slow-go years

When you reach your late 70s and 80s, you might have a little less energy and a few more health issues. In these years, your spending on medical needs could rise and you may consider downsizing your home or modifying it for your needs.  

The no-go years

In the later years of retirement, your life and activities are likely to be more home-based, and your health care and long-term care costs are typically at their peak.  

These phases provide a general look at how retirement can progress. Many retirees are lucky enough to remain healthy and active throughout their lives. But it's a reminder that the retirement you picture now could evolve, and you may need to shift your spending as it does.

MAKE YOUR MONEY WORK FOR YOU IN RETIREMENT

Having a clear picture of your expenses and the tools to manage them can help you avoid surprises – and enjoy more peace of mind – in retirement. An advisor can help you with determining your retirement expenses, income needs and a withdrawal strategy that’s right for you.