Kevin B. Murray, BridgeTower Media Newswires
Economists define inflation as "a general increase in prices and fall in purchasing power of money." In recent years inflation has not been a hot topic since it has been relatively tame - in fact, it has averaged less than 2% over the last decade. Many believe that with rates of inflation that low, you need not take inflation into account as you prepare for retirement.
The long term average rate of inflation in the United States has been about 3% a year. It is certainly possible that in the period of one's planned retirement we could have much higher rates of inflation. For example, in the 1970s inflation averaged more than 7% per year; as recently as 1980, the rate of inflation was 13.5%!
Albert Einstein once stated that "compound interest is the most powerful force in the universe." With respect to the impact of inflation on one's lifestyle in retirement, this power of compounding can work against you. Even at relatively modest rates, when compounded over time, inflation can take a big bite out of the purchasing power of retiree's assets.
For one who retires at age 65, with inflation at even a low rate of 2% annually, over the next 20 years of retirement, you would require about $75,000 at age 85 to buy what $50,000 would purchase when you retired. If inflation was at its long term average of 3%, you would need $90,000 to buy what $50,000 purchased when you retired. Higher rates of inflation have an even larger impact on your future purchasing power.
Unfortunately for retirees, some of those items that enter disproportionately into their particular expenditure patterns can - and have - gone up in price far more rapidly than the general level of inflation. One important example is health care, which is a higher percentage of retirees budget than that of the general population. Over the past decade, the price of medical care has increased at 3.3% per year, or about 70% faster than the overall rate of inflation.
What steps should you take to avoid or at least mitigate having inflation negatively impact your retirement lifestyle?
An important decision all soon-to-be retirees must make is when to take your Social Security benefit. This decision is not as simple as many may think. Each individual's situation is unique, so it is impossible to give one answer that will fit all. Factors such as if you are married, what your current and future health is expected to be, what assets you have built up pre- retirement and what your earnings were over your work history all come into play.
Statistics show that one-third of retirees rely on Social Security to provide 90% of their retirement income. More than half of all retirees rely on Social Security for more than 50% of their retirement income. For everyone it is worth understanding how your Social Security benefit is calculated and what steps you can take to get the best benefit for your individual circumstance.
Social Security uses the highest earning 35 years of your work history to calculate your retirement benefit. You can create a My Social Security account online, which will show your work history and provide personalized estimates of future benefits under a number of different retirement and claiming time periods. By working longer and/or claiming later, you will substantially increase the monthly benefit received from Social Security. Each year you delay claiming between 62 and 70, your benefits go up by between 6 and 8%. If your current employment income is above the lowest of your prior 35 year work history, your benefit will go up for that reason as well. While working longer may not be optimal or even possible for some, it should be something you look into before claiming your Social Security benefit. One benefit of Social security is that it has an automatic cost-of-living adjustment built into your yearly benefit amount.
The obvious but not always easy way to prevent inflation from cramping your desired lifestyle in retirement is to build as large a nest egg as possible during your working years. The larger your savings prior to retirement, the better you will be able to cope with rising prices and all other possible problems in retirement. The power of compound interest here is working with and for you. The more you save and the younger you start, the more the power of compound interest will help you have sufficient funds for your desired lifestyle in retirement.
History has shown that investing your savings in a diversified portfolio of both stocks and bonds will generate returns that will outpace inflation by several percentage points annually over long stretches of time.
While there is no easy way to build up the income needed for a quality lifestyle in retirement, there are tried and true ways to do so if you can save during your working years. You can save using both pre-tax methods such as a 401K, 403B or traditional IRAs, and after-tax accounts such as Roth IRAs or individual accounts. Many employers offer a match to 401K savers, and you should make it your number one place to save at least up to when the match ends. With respect to Social Security, a little research as to what works best for you can go a long way - provided the research is done before you claim your benefit.
It seems that inflation in modern economies might be added to death and taxes as things we cannot avoid. Inflation can and should, however, be part of our planning process when looking to retire. While you cannot control inflation, you can and should take steps to mitigate inflations impact on your retirement.
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Kevin B. Murray, is a vice president at Karpus Investment Management, a local independent, registered investment advisor managing assets for individuals, corporations, non-profits and trustees Offices are located at 183 Sully's Trail, Pittsford, NY 14534 (585) 586-4680.
Published: Mon, Sep 10, 2018
