Will Your Retirement Money Last?

Standard & Poor's suggests you consider these five risks to your retirement income, including outliving your assets and higher health-care costs

by Standard & Poor's

From Standard & Poor's Financial Communications

With so much at stake when planning a retirement income stream, it pays to take a step back and see whether your plan takes into account the major obstacles to retirement income adequacy. When you take this big-picture view, consider the five major challenges most retirees face: the potential for outliving one's assets; the threat of rising living costs; the impact of increasing health-care costs; uncertainty about the future level of Social Security benefits; and the damage to long-term financial security that can be caused by excessive withdrawals in the early years of retirement. Understanding each of these challenges can lead to more confident preparation.

Points to Remember

• Today's retirees have to assess several threats to enjoying a financially comfortable retirement. These include the potential for outliving their assets and the corrosive effects of inflation on future income.

• A sound retirement income plan needs to address specific risks, such as longevity, rising health-care costs, and excessive withdrawal rates, that can lead to premature depletion of assets.

• Demographic trends are likely to put added stress on government-run programs, including Social Security and Medicare, which help retirees balance their budgets.

• The goal of retirement income planning is to create a sustainable, predictable stream of income that also has the potential to increase over time.

Examining the Issues

Longevity. While most people look forward to living a long life, they also want to make sure their longevity is supported by a comfortable financial cushion. As the average lifespan has steadily lengthened due to advances in medicine and sanitation, the chance of prematurely depleting one's retirement assets has become a matter of great concern.

Consider a few numbers: According to the latest government data, average life expectancy in the U.S. climbed to 77.6 years for a child born in 2003, compared to 47.3 years in 1900. But most people don't live an average number of years. In reality, there's a 50% chance that at least one spouse of a healthy couple aged 65 will reach age 92, according to data from the Society of Actuaries.

Inflation, or the tendency of prices to increase, varies over time, as well as from region to region and according to personal lifestyle. Through many ups and downs, U.S. consumer inflation has averaged around 4% over the 50 years ended Dec. 31, 2006. If inflation were to continue increasing at a 4% annual rate, a dollar would be worth 44¢ in just 20 years. Conversely, the price of an automobile that costs $23,000 today would rise to more than $50,000 within two decades.

For retirees who no longer fund their living expenses out of wages, inflation affects retirement planning in two ways: It increases the future cost of goods and services, and it potentially erodes the value of assets set aside to meet those costs—if those assets earn less than the rate of inflation.

Health Care. The cost of medical care has emerged as a more important element of retirement planning in recent years. That's primarily due to three things: Health-care expenses have increased at a faster pace than the overall inflation rate; many employers have reduced or eliminated medical coverage for retired employees; and life expectancy has lengthened. In addition, the nation's aging population has placed a heavier burden on Medicare, the federal medical insurance program for those aged 65 and older, in turn forcing Medicare recipients to contribute more toward their benefits and to purchase supplemental insurance policies.

The Employee Benefit Research Institute has estimated that if recent trends continue, a typical retiree who is age 65 now and lives to age 90 will have to allocate about $180,000 of his or her nest egg just for medical costs, including premiums for Medicare and "Medigap" insurance to supplement Medicare.