Learn How to Make a Retirement Budget
Planning your finances by using a retirement budget can lead to more fun in your golden years. By having a plan, you'll have less stress, and making a retirement budget helps you avoid one of the biggest retirement mistakes people make of spending too much of their nest egg too soon.
With just five steps, you can develop a budget that helps you plan for the financial changes and events you’ll experience as you enjoy your retirement.
Importance of a Retirement Budget
Of the many factors that affect your retirement income (inflation, rate of return on savings and investments, your retirement date, taxes, spending, part-time earnings, Social Security, pensions, and more) you have the most control over one critical factor: Your spending. In retirement, over-spending can become financially dangerous.
Getting a handle on your upcoming retirement budget puts you in a place where you’ll be able to make smart choices about the retirement lifestyle you want. You may find you’re willing to make certain trade-offs that allow you to do things like retire earlier, travel more in retirement, or have more money for fun and hobbies.
Creating Your Best Budget
Start by gathering the following items:
- Your last 6 to 12 months' worth of bank account statements
- Your last 6 to 12 months' worth of credit card statements
- If still employed, last two pay stubs for you (and your spouse if married)
- 10 to 12 colored highlighter marking pens
- Last year’s tax return
Review the transactions on your bank account and credit card statements to track where you have spent your money over time, and use the highlighter pens to group expenses into different-colored categories by following the steps below.
STEP 1: Your Fixed Expenses
Start your budget by listing all of your recurring monthly, quarterly or annual payments. To make an effective retirement budget, break this list down into three parts:
- Essentials: This includes food, clothing, housing, transportation, and healthcare.
- Non-essential monthly obligations: Although we all may think of cable TV and streaming services as an essential, they aren't. Non-essentials include things like cable, gym memberships, subscriptions, and other items for which you receive bills.
- Required non-monthly expenses: Items like property taxes, insurance premiums, auto registration and home warranties may come up once a year. Add up these periodic expenses and divide by 12 to calculate their cost on a monthly basis to include in your retirement budget.
To account for the timing of expenses, use lined paper or a computer spreadsheet program to make a budget chart spreadsheet for the calendar year. List the months of January to December across the top in separate columns. Down the vertical side of the spreadsheet, list each expense on a separate line.
If your utility bill runs an average of $200 a month, put $200 in each monthly column. For Christmas gifts, if you spend about $500 a year, divide the $500 in two and put half each in November and December. Do this for each expense item, then total up each month.
STEP 2: Changing Health Care Costs
If your employer has been paying your health insurance premiums, once retired you may have to pick up the tab. If you retire prior to reaching age 65, health premiums will be expensive. Between the ages of 60 and 65, before you become eligible for Medicare, health insurance premiums could run $1,000 a month per person. Shop for plans now so you can add an estimate of that monthly expense into your budget.
Don't forget about dental, eye care, and hearing. Add those expenses to your budget too. Add in estimates for health care costs in retirement in order to develop a realistic expectation of how much you'll need to live on each year. Getting this item wrong is one of the seven deadly retirement budget killers that can wreak havoc on your retirement plan.
STEP 3: Optional Items
This includes all the fun stuff, like travel, grandkid outings, sports, and other entertainment.
STEP 4: Plan How You'll Spend Your Time
Consider how your hobbies and lifestyle may change, as this could affect the way you spend. If married, ask your spouse to do this also.
If you have expensive hobbies, you'll need to budget more for those. Begin to think about changes you may be willing to make that would reallocate money from items that are less important to items that are more important. For example, if you want to travel more, would you be willing to downsize and live in a smaller house?
STEP 5: Calculate Fixed Versus Flexible Costs
- Total all your fixed expenses.
- Total all your other, non-fixed expenses separately.
- Divide your fixed expenses into your total expenses.
How much of your retirement income will go toward fixed expenses? Does this align with your thoughts in Step 4 on how you want to spend your time in retirement? If you have large monthly obligations for house and car payments, consider a lifestyle change to free up funds for travel or hobbies.
As a general rule of thumb, if you want more fun in retirement, find ways to lower your fixed expenses so you can have more flexible funds available to spend on the interests you most enjoy.