An often-cited rule of thumb is that you’ll need 70 per cent of the income earned in your later working years to live comfortably in retirement.
But many experts say the 70-per-cent figure is no longer reliable given the different ways people save for retirement today – and the unique lifestyles they have when it finally comes.
“Rules are shortcuts that, in many cases – especially where one’s long-term financial security is concerned – aren’t worth taking,” says Rona Birenbaum, founder and certified financial planner at Caring for Clients, a fee-for-service financial planning firm in Toronto.
The 70-per-cent rule dates back to when single breadwinners could draw on funds from defined-benefit pension plans, Ms. Birenbaum says. Those pensions are increasingly rare in today’s workplaces. Also, employees today tend to change jobs more often, which means even those with a defined-benefit pension are likely to accrue less in it compared with older generations.
Instead of focusing on income, Ms. Birenbaum believes it’s better to look at after-tax cash flow, particularly for couples who can take advantage of various income-splitting strategies and tax-free savings accounts to help reduce the family’s overall tax bill.
The 70-per-cent rule is also problematic with today’s longer life expectancies, especially among people who are investing conservatively in low-return products such as guaranteed investment certificates (GICs).
“Seventy per cent was easier to achieve when interest rates on GICs were 6 or 7 per cent. But now they’re 1 per cent, and it requires a whole lot more capital to generate your cash flow,” she says.
On the spending side, Ms. Birenbaum points to the argument that 70 per cent overestimates the cost of living in retirement. However, she’s had many clients who find the opposite to be true: Some seniors continue to make mortgage and other debt payments and support adult children, while also facing skyrocketing costs for long-term care insurance.
“I’m not comfortable saying to somebody, ‘Your expenses are going to go down and then flatline.’ I just don’t see it that way,” she says, especially as many people’s lifestyles and needs change in their later years. “Instead of spending money on travel, they’re going want to be in the position to be able to spend it on additional services to enhance the quality of their life.”
Simon Tanner, principal financial adviser at Dynamic Planning Partners in Vancouver, says the ideal income in retirement is “an age-old question” that’s difficult to answer.
Outliving your money is always a concern, he says, especially today with people living longer, and many retirees are more adventurous and energetic than they were decades ago when the 70-per-cent rule was developed.
He suggests people move away from thinking they’ll need a certain percentage of their working income in their senior years and instead plan for active and passive retirement phases, allocating funds to each. For instance, Mr. Tanner says someone might choose to travel a lot in the early retirement years, which will require more spending.
Warren MacKenzie, head of financial planning at Optimize Wealth Management in Toronto, believes the 70-per-cent rule is problematic because it tends to stay away from using up capital.
“Some people might think they need pension income and investment income equal to 70 per cent of their preretirement income,” he says.
That might be a good calculation for some, he says, for instance, if they want to leave a large estate to their heirs.
“But if they’re comfortable spending their last dollar on the day they die, there’s nothing wrong with spending capital,” he adds, which includes the money they have tied up in their house.
“The most important thing is for them to be clear on their goals,” Mr. MacKenzie says, including the amount – if any – their want to leave to children.
He suggests people set aside the “essential capital” they require to live, which would be invested conservatively and left to heirs when they die, and consider the rest as “surplus capital” – to do with what they want.
“If you have a surplus, and if you know that, well then you can enjoy it. You can spend more, you can give to the kids now, you can get involved with a charity – you can do what you want,” he says, while recommending people work with advisers to develop a personalized retirement plan.
“A proper plan will allow you to enjoy your retirement.”
While guidelines like the 70-per-cent rule are unreliable, they can be useful as “a litmus test to say, ‘How worried should I be? How urgent is it for me to figure this out?’ ” Ms. Birenbaum says.
Such rules of thumb are also helpful if they encourage people to develop a financial plan that considers their individual needs and wants in retirement, she says.
The benefit of such a plan, she adds, is that it can build in scenarios for unexpected life events such as a job loss, a health issue or even a financial windfall that can affect retirement goals.
“I can’t tell you how often clients’ lives change, pretty much making their prior projections useless.”
