Top 10 Mistakes to Avoid in Planning for Retirement

New clients come through our doors with a myriad of financial goals—to pay for kids’ college expenses, travel in retirement, leave a financial legacy to loved ones or charities, etc.  However, there is generally one goal they all share—at some point, and in some form, they wish to retire.  Especially given increasing life expectancies, most of us will stop working at some point before we pass on, and we do not want to spend the subsequent years pinching pennies or having to scale back from the standard of living we enjoyed while working.  To set the stage for a smooth financial progression into and through retirement, try to avoid the following 10 mistakes in retirement planning.

#1:  Not Having a Plan.  Simply “hoping” to retire at some point, or around a certain age, does not qualify as having a plan.  As Mike often says around the office, “Hope is not a strategy.”  It is important to identify specific goals and the steps that you must take to get there.  Fortune magazine and Harvard Business School have both published studies showing that people with written plans and goals are more likely to be successful in the long run.

#2:  Not Saving Enough.  People often underestimate the amount needed to retire comfortably and do not set aside enough of their own resources while working or take full advantage of employer retirement benefits.  In a prior post, we discussed the savings rate (as a percent of gross pay) for which workers should aim.  Starting to save for retirement earlier in life (i.e. in your 20s) is a huge benefit, as is the opportunity to receive an employer match.  Consider how much you spend on an annual basis.  Apart from any employer pensions (which are increasingly rare these days) and Social Security benefits, you will have to cover those expenses from your retirement nest egg.  In addition, while some expenses may decrease when you retire or as you age, others—such as medical costs—may increase, so it is wise to plan conservatively in determining how big your nest egg should be.

#3:  Trying to Time the Market.  Once you have a plan and are busily saving toward retirement, make sure you have an investment strategy that will help you achieve your goals as well.  Don’t waste time and money trying to time the stock market—i.e. trying to buy low and sell high at exactly the right times— and avoid actively-managed mutual funds that attempt to do the same.  In the vast majority of cases, attempting to outguess the market is a losing proposition.  Furthermore, actively-managed mutual funds have relatively high expenses that could erode your retirement savings over time.  Instead, create an investment strategy with diversified, passively-managed mutual funds, and have the discipline to stick with it, regardless of the movement in the stock market on any given day, month, or year.

#4:  Having the Wrong Investment Allocation.  Part of your investment strategy involves choosing an appropriate allocation between stocks and bonds, based on your age, situation, and risk tolerance.  If you are too aggressive (i.e. allocate too much of your portfolio to stocks or junk bonds), you risk needing to sell volatile assets when the market is down in order to fund your living expenses.  If you are too conservative (i.e. allocate too much of your portfolio to short-term, high-quality bonds and cash), your portfolio may not experience the growth necessary to last until your life expectancy.

#5:  Neglecting Your Investment Portfolio.  If you are managing your own finances, once you have an investment allocation and strategy in place, you should check your portfolio at regular intervals and rebalance it, as needed, in order to stay close to the investment targets that you established.  To do this effectively, you should take into consideration all of your bank, taxable, and retirement accounts—which is generally much easier if your accounts are consolidated (e.g. all of your old retirement accounts are combined into one rollover IRA, you only have one taxable investment account, etc.).  This should be done at least on an annual basis, though doing so semi-annually or quarterly might add value over time.  Do not succumb to the temptation though to watch the stock market closely and react to changes, especially in response to day-to-day financial news.  Set a target time frame for rebalancing, and stick to it.

#6:  Allowing Leaks from Your Retirement Nest Egg.  In recent posts, we discussed the danger of allowing your retirement nest egg to leak, either by taking loans from current retirement accounts during your working years and neglecting to pay them back in full or by withdrawing funds from old retirement accounts when you leave an employer and failing to roll them into another qualified plan.  Again, this can significantly erode the retirement savings that you’ve worked hard to accumulate and can result in a serious tax bill in the year that you withdraw the funds and/or fail to pay back the loan.

#7:  Forgetting about Taxes.  When evaluating how much you need for retirement, it is essential to factor in the accompanying taxes for each of your accounts.  For most retirees, the majority of their savings is in qualified accounts— traditional IRAs, 401(k)’s, 403(b)’s, etc.  Any withdrawals from these accounts will face ordinary income tax rates.  In other words, you will pay an equivalent amount of income tax as you would if the funds came from a regular salary while working.  In contrast, if you have a taxable investment account, you will only owe tax on the gains (not the initial amount invested) and will face capital gains tax rates (which are lower than ordinary income tax rates).  If you have a Roth IRA or Roth 401(k), none of your withdrawals will be subject to income tax, since both the principal and the gains can be taken out tax-free.  Bear in mind too that other changes in your retirement years could impact your tax bill.  No longer having earned income may drive your tax bracket downward, but other changes, such as reducing your number of dependents (as kids are launched) or paying off your mortgage, could nudge it back up.

#8:  Counting on Income as You Approach or Pass Retirement Age.  Those nearing retirement age often assume that they will be able to continue working (and making the same salary) until the exact age they choose to retire.  Unfortunately, we have repeatedly seen this assumption prove false, with clients losing jobs in their late 50s or early 60s and struggling to find similarly compensated work.  The same can hold true when people assume they’ll be able to work part-time or do consulting work for a number of years early in retirement.  Occasionally, it is possible; often it is not.

#9:  Being Unwilling to Adapt as You Approach or Pass into Retirement.  Even the best retirement plans could be thrown off by a significant deviation from what you expected early in retirement.  A substantial stock market downturn (e.g. the 40% drop in the market in 2008-2009) or a large unexpected expense (e.g. unanticipated medical bills for a major health issue) could negatively impact your standard of living throughout retirement, if you fail to adapt to it.  You may need to tighten your belt and trim down spending temporarily in order to avoid draining too much of your portfolio too soon.  Similarly, you may need to stay flexible on when you retire if you got a late start in building up your retirement nest egg.

#10:  Neglecting the Qualitative Side of Retirement Planning.  Finally, don’t forget to plan for the qualitative side of retirement.  If you retire on a Friday afternoon, what will get you out of bed on Monday morning?  Be sure to plan out how you will stay active and have social interaction in retirement.  And, if you are married, make sure that you discuss joint plans and goals, so both parties can pursue their interests and feel fulfilled in retirement.  In addition, consider your legacy—financial or otherwise.  Consider how you will devote time or resources throughout retirement to positively impact the individuals or causes that are important to you.

As always, we are here to help guide our clients through all of these issues.  If you have any questions or concerns, we have many years of experience helping clients navigate this significant transition into retirement, so please do not hesitate to call.