How Much Is Enough? The Cost of Living Conundrum
Remember, $1 million here won’t necessarily equal $1 million there.
This is a common afterthought when it comes to retirement planning. Even high net worth individuals will save, invest and earmark money based on an "average" cost of living. But expenses can vary significantly by state, region and even area. Real estate prices, taxes, utility costs, even food costs differ, depending on where you live.
Does the cost of a loaf of bread really matter when it comes to your retirement planning? In a way, it does. You’ll be essentially buying that loaf of bread on a regular basis for 10, 20, maybe even 30 years. Will you still be able to afford it many years after you’ve retired?
Sure, a loaf of bread may be an exaggerated example, but what about when that cost is a mortgage payment, healthcare costs or taxes? Expenses can add up quickly. Does your retirement plan use accurate and reasonable projections?
Officially, cost of living is measured based upon price changes for an average basket of goods and services that people need to live, compared over time.
When planning for retirement, it’s important to use appropriate cost-of-living estimates as a guide to manage your finances. This is often forgotten when planning to relocate later in life, be it to move closer to family, find better weather or get closer to important medical treatment.
At Linscomb & Williams, we have been helping families retire in the South for nearly 50 years. While there tends to be a lower cost of living Down South than in other areas of the country, the cost-of-living can differ from state to state.
For example, according to a widely used index designed to measure the salary needed to afford the area’s average expenses, typical rental housing costs in Huntsville, AL for a two-income family of five costs $12,480. Retirement planning in Alabama will therefore look different than retirement planning in Atlanta, where typical housing for the same family averages $17,787. While housing costs in Atlanta are similar to those in Houston, Texas, retirement planning in Texas may still look different due to taxes. Annual taxes for this family in Texas average $9,774, while in Atlanta, they average $14,905!
These cost-of-living expenses can make a big difference, even to high net worth individuals. It’s important to consider, how long will $1 million last?
Adding to these extra costs is the impact upon your ability to save. If you live in a high cost-of-living area in your pre-retirement years, you may have less disposable income to invest and put toward retirement than someone of your same income and net worth living in a lower cost-of-living area.
If you live in an area with a high cost of living in retirement, your retirement nest egg will decrease faster than it would in an area with a lower cost of living. This can leave less money available for your retirement goals.
Cost of Living and Your Specific Situation
As important as cost of living is, your actual expenses can vary.
For example, if you fully own a home or are in a position to buy one outright with money made by selling your current home, the average cost of mortgage payments may not factor into your own budget. If you have health insurance costs met by a former employer, the cost of health insurance in an area may not be a significant factor to you (although uninsured medical expenses might be).
Conversely, your goals and plans might cause higher spending than a cost-of-living average. If you plan to dine out frequently during retirement, for instance, your recreational and food spending could be higher than the cost-of-living indicates.
Discuss your plans with a financial advisor to make sure your finances align with your personal goals.
Cost of Living and Your Cashflow in Retirement
It’s important to create a budget for retirement.
First, estimate the amount of income you expect in retirement. This will include Social Security benefits, if you are eligible, any pension you’ll receive, annuities, 401(k)s, Individual Retirement Accounts (IRAs) and other retirement sources of income.
Then, estimate your retirement expenses. Will you still be paying a mortgage? If moving in retirement, will your housing costs change? Take into consideration your plans for retirement, such as expanded travel or taking up a new hobby.
Then be sure to factor in inflation. Inflation erodes purchasing power over time regardless of your cost of living, because every dollar buys less. When looking at future expenses, it’s prudent to plan for 2 percent inflation across the board annually. In a 30-year retirement, an annual rate of 2 percent can add up significantly.
Remember, certain categories, such as healthcare expenses, have historically outpaced the rate of inflation. Make sure to factor in appropriate projections and future needs, such as medical care.
A budget is useful, even for high net worth individuals, but it’s not ironclad. Life happens. Things change. Who could have predicted a year like 2020? Work with a financial advisor to evaluate certain what-ifs and what they could do to your plans.
How Linscomb & Williams Can Help
Linscomb & Williams is a fee-only, fiduciary financial planning and investment management firm headquartered in Houston, Texas, with offices in Texas, Georgia and Alabama. If you’re thinking about retiring in the South, let’s talk. The Linscomb & Williams team has nearly half a century of experience helping families build, preserve and manage wealth. Schedule a no-obligation conversation today.