by georgefrost310
I recently created a retirement spreadsheet using excel and am having a hard time understanding how, given the power of inflation, you could ever retire with relative certainty that’d you’d be ok in the long run.
Suppose you retire at age 65 with optimistically $1.5 million in savings. Suppose that generates 5% per year in interest income that you plan to live on = $75K/yr. Suppose you pay 30% total income tax on that (fed/state) leaving you with ~$50K/yr or roughly $4,000/mo. Clearly today $4,000/mo is plenty to live on comfortably.
But ~30 years from now (I am 36), assuming 3.2% annual inflation, $4,000/mo is worth only about $1,500 in today’s dollars. Still maybe ok if you live frugally; maybe have a place to live for free at that point (assuming you didn’t need your home equity to get to the original $1.5M nest egg).
But the thing that really has me scratching my head is what if you live to be 95? That $4K/mo is now worth only ~$600/mo. That’s tough to live on. AND the thing that is even harder for me to understand is how much money it would take to make a material difference — suppose you double the $1.5M nest egg to $3.0M. By 95, that is still only giving you ~$1,200/mo in today’s dollars worth of purchasing power?
Clearly you might have additional income — SSI and/or work pension etc. But for the sake of simplicity, assume you don’t have those additional sources (because 1.5M as a nest egg is a stretch as is, so in coming up with the above numbers, I already shifted them to assume some of that original $4k/mo includes those sources).
How does one responsibly plan to live into deep old age (the universe willing) given the power of inflation? Once you stop working and start living on interest income, your dollars seem to devalue rapidly. Is the only solution kids/other family support by ppl working who make salaries inflated to 60-years-from-now levels? Or just enjoy the first 10-15 years of retirement while your money is still competitive? Is the advice on so many finance websites to aim for 1M to 1.5M in retirement savings dated (keyed to today’s dollars or even 30 years from now dollars, rather than 40/50/60 years from now dollars)? Or the advice that you should save X times your current salary to sustain X quality of life somewhat incomprehensible, since retirement is not a static situation, but rather a dynamic one in which X quality of life takes increasingly more income to sustain every year?
I’d really appreciate any help with reorienting my thinking about this if possible. I thought the retirement spreadsheet drafting process would make me feel more secure, and instead I feel less secure.
TL;DR – draft retirement spreadsheet has me confused as to how one can ever reasonably expect to live 30 years post-retirement on interest income alone without many millions in savings given the power of inflation. Please help 🙂
EDIT: Wow, thank you all so much for the incredible response and wealth of information. To summarize major takeaways: 1) The biggest mistake I made was to assume that I would live entirely off interest income in retirement; rather, most people seem to draw down principal and a 4% draw is very likely to last 30 years, a 3% draw almost certainly will (see Trinity Study and concept of “Safe Withdrawal Rate”). 2) I made many assumptions that are too pessimistic: a) tax rate is likely to be something closer to 20%, b) real return (inflation adjusted) is likely to be 3-5% annually, in part because c) 3.2% is likely too high an estimate of inflation (100-year historic average does not take into account modern monetary policy). 3) If possible, try not to assume the equity in your home will become part of the nest egg; great if you can live in the home to reduce housing expenses in retirement. 4) For many, retirement at 65 may be optimistic given increasing life expectancies — consider staying engaged even in part-time work you enjoy beyond that. 5) Expenses do tend to go down in retirement, though this may be non-linear (early active years, more sedentary mid-retirement, increased care costs in late retirement). 6) Consider “bond tent” or similar approach to asset allocation near the retirement age. Since poor stock market returns near retirement can cause you to dip into principal in a way that dramatically alters performance throughout retirement, it is a good idea to shift some of your portfolio to bonds near retirement age (see “Sequence of Returns” concept). 7) If an appealing option, consider jurisdictional arbitrage — i.e., make money in a place where wages/income are relatively high and then retire to a place where cost of living is relatively low (tl;dr – work in the US and retire to Mexico/South America/Southeast Asia). 8) Lastly, wherever you are on the path to retirement, proceed in the face of inherent uncertainty (even the corrected assumptions above about SWRs, future tax rates, real returns, and inflation are not certain), balancing as best you can the ability to hedge risk and plan for the future while also enjoying today. Thank you all — spreadsheet updated!