The New Retirement Reality

One look at the recent volatility in the stock market, and you’ll know that retirement planning is a complicated business. And this isn’t anything new. Retirement planning in the U.S. got its start with the first created pension plans in the late 1800’s. Then there was the Social Security Act in 1935 and the Employee Retirement Income Security Act in 1974. This was followed by the first 401(k) plan in the late 1970’s.

One constant throughout the evolution of retirement planning has been change and economic uncertainty. Retirement planning would be much easier if we knew the cost of living would never adjust … gas prices would not increase … and the cost of eggs was always the same. Instead, retirees have had to contend with inflation and market changes for decades. But perhaps the true game-changer that we are all facing is the change in life expectancy. Although living longer isn’t necessarily a bad thing, there is a risk of outliving your income, which is a terrifying notion for any retiree.
 

Longevity Risk

Your longevity is a measure of the number of years of life expectancy and the risk that you may exceed it. The risk is that your retirement plan is based on your life expectancy, and your longevity risk could put you in danger of outliving your income. The problem is as you age, your longevity increases. For example, a 60-year-old male can expect to live until age 81, while a 70-year-old male is expected to live until age 84. And it keeps expanding the older you get. It’s more pronounced for females who have longer life expectancies than men.

Business owners retiring today face more financial challenges than their parent’s generation. Healthcare costs are increasing at a faster rate than inflation, and due to increasing longevity, those costs will consume an ever-increasing portion of their retirement budget. More retirees are carrying mortgages into retirement, and many find themselves sandwiched between their aging parents and their own financially struggling children.
 

Inflation Risk

Today’s retirees face a new set of problems regarding inflation. First, because guaranteed pension plans are generally a thing of the past, retirees must rely on their own capital to generate sufficient income for their extended lifetimes. Not only must they be able to accumulate capital at a rate that exceeds inflation, but they must also be able to sustain a rate of growth on their capital throughout their lifetime that at least paces inflation.

Secondly, and this goes back to longevity risk, inflation has a much more significant impact on purchasing power when assets and earnings are exposed to it for 20 or 30 years. Even a modest inflation rate of 3 percent will cut purchasing power nearly in half over 20 years.
 

Market Risk

Market risk has always been a factor for retirees, but more so as pension plans began to disappear, and they have had to rely increasingly on accumulating their own capital as a long-term income source. Until recently, the implication of market risk was most evident during the market crash in 2008 when the values of stocks and mutual funds held in retirement plans plummeted by as much as 40 percent almost overnight. Anyone within ten years of retirement saw their dreams evaporate. Where prior generations, secured by pension income, may have avoided market risk, today’s retirees must embrace it if they hope to achieve and sustain any semblance of a comfortable standard of living. For today’s retirees, avoiding market risk will almost certainly expose their assets and income to the risk of inflation and longevity. The good news is that with retirement timeframes stretching out 25 to 30 years, market risk can be mitigated through the normal ebb and flow of the market cycles.

When planning your income needs in retirement, it’s essential to make realistic assumptions about your time horizon to ensure lifetime income sufficiency. A wealth advisor can play a crucial role in helping business owners navigate the complex financial landscape by providing personalized strategies to manage inflation, market, and longevity risks. Your trusted advisor can assist in creating a comprehensive retirement plan that ensures sustained income throughout retirement, taking into account the increasing healthcare costs, potential mortgage burdens, and the financial needs of both aging parents and financially dependent children.

By leveraging the expertise of wealth advisors, you make realistic assumptions about your time horizons, optimize your investment portfolios to balance growth and security, and receive guidance on how to mitigate the risks of outliving your income. This holistic approach can help achieve financial stability and peace of mind in your golden years.