Calculating your future retirement finances
Part 6 of the New Bermuda Retirement series. The Next Step: Setting up projections to calculate future retirement savings and expenses
On May 21, Moneywise launched the first of two simplified retirement projection calculators. Calc-One portrays the fifteen years of projections prior to retirement at age 65. Calc-Two will emphasise the drawdown retirement phase after age 65 and it will be featured at a later date. Calc-One had a primary objective to determine the cost of necessary need expenses for your family on an annualised basis [see link at the end of this article]. Income fields were left blank for work in a later article, figuring that it would take an effort just to compile the expense estimates.
Then, we had to do some homework on what your financial budget picture may look like in future years. We had to make some assumptions for the annual increased cost of your major household expenses (in other words, how much more do you think these expenses will cost you each future year). We demonstrated the Bermuda Personal Inflation Calculator to help you assess your personal inflation rate for each of the major items listed in the chart.
Please keep in mind that your income and expense estimates are extremely personal to your family. I generally suggest that you work from a minimally acceptable budget for both income and expense projections — because if your future income, and net savings turn extremely positive, then you know — barring a severe economic event — you will be able to manage quite well.
This week, we apply the same reasoning to your income from all sources derived, except for inheritances (those are never certain and in my long experience not counted on).
Then we combine them in your retirement calculator and carry the original income and costs, appreciated or inflated out for fifteen years. We will use a composite couple’s financial profile for illustrative purposes, and note that it is just that — a composite. Your combined income may be more or less, your health insurance may vary, you may want to project more individual expenses instead of lumping living expenses together, and become far more detailed in your income section. Those are your preferences.
Where are the accumulated savings, pensions, and investments listed on the chart? You will no doubt question why a significant component of this illustrative couple’s financial situation is missing. Those numbers are inserted at the very end of the projections in a future article in the series. At the end of the new Bermuda Retirement Series, I will provide a complete copy of the excel spreadsheet to readers upon your e-mail request. The brilliant finance majors among us will probably have already built their own, or are using a generic Monte Carlo simulation. If so, good for you. Monte Carlo model discussions will be also be explained in detail in later articles.
Our composite and illustrative combined family financial profile consists of two adults with two children. We will focus on just a few major items this week, with more to be added later.
I want readers to feel comfortable with these numbers, the chart and the calculations. Do not be intimidated. You do not even need an electronic spreadsheet. Set one up on legal paper, using the example chart, and do your calculations by hand.
Combined salary income: $100,000 net of payroll tax and other deductions
Pension contribution: 10 per cent of salary, five from your employer and five per cent from yourself. This will actually be a bit higher than $10,000 because the amounts are figured on your gross wages.
Other income: Such as second jobs or rental income
General living expenses: This is for you to determine using your household experience with increased costs.
Medical costs: $1,000 per month for a family of four, this estimate may actually be too low based upon current health insurance, co-pays and non-deductibles.
Education: First child heading to university in 2020, then second child. You punch in your estimates for this.
Refining the retirement projections
Let’s follow through these income and expense lines to see what some of their projections look like as the years roll on.
Combined gross salaries and income: Based upon tight growth environments in Bermuda, and a still recovering economy, any pay raises are projected at 1 per cent per year. The increase in each year is arrived at by multiplying each previous year by 1 per cent (1.01). Thus, 2016 is $100,000, 2017 — $101,000 and so on.
Annual pension contribution: The calculation is computed the same way as gross salaries.
Medical expenses: Projected to increase 12 per cent each year. $12,000 in 2016, $13,440 (12,000 x 1.12) in 2017, $15,053 ($13,440 x 1.12) in 2018 and so on.
Education expenses: This projection is a little confusing. You will need to research what a four-year education at the university of your choice costs today (say $30,000). That is the number to use, then your computation projecting that number out four years starting in 2020. In math terms, this is known as calculating to the power of four, or the interest rate raised to the power of four. You can also compound it the same way as your other computations, to get the 2020 number that will be the estimated cost at that time. Hint. The interest rate number is 1.4641 and the 2020 starting year tuition is projected to be $43,923. There is a link to a free online calculator below.
If this calculator is just too daunting, then wait for the completed chart. You won’t have to do anything except input your numbers.
So be brave. Take the plunge and start adding in your own income and expense projections. Let me know how you are doing. Write to me.
Links:
What is your personal inflation rate? The Royal Gazette, June 11.
Getting your retirement timeline right Part 5. The Royal Gazette, May 21.
Free online calculator:
Martha Harris Myron CPA PFS JSM, Masters of Law: International Tax and Financial Services. Appointed to the Professional Tax Advisory Council, American Citizens Abroad, https://americansabroad.org/. The Pondstraddler* Life™ financial perspectives for Bermuda residents with multinational families and international connections on the Great Atlantic Pond. Contact: martha@pondstraddler.com
