Cheat Sheet Q&A: How do you know how much money you'll need in the future because of inflation?:
Today's entry: Brian, I know you've had a number of topical Q&A's recently but I'm hoping you have time for a specific question that's not related to what's going on in Washington. I've followed your logic and research for years and I believe that I understand most of your advice and guidance. There's one hole that I'm lacking an answer to but am hoping you have for me. You've said not to focus on a specific dollar amount needed for retirement but rather on income from investments. How do you know what the appropriate level of income will be in the future to keep up with inflation?
Bottom Line: This is a great question that I'm not sure I ever have addressed. First, the concept that I've advanced that's being referenced, is that I don't believe in creating retirement plans that rely on principal reduction (unless one is uber wealthy). For that reason I believe in creating retirement plans that are based on the residual income needed for you to attain the standard of living you're desirous of. My short two part answer when asked when to time retirement is:
1. When you're debt free (including your mortgage - my first rule of retirement is that a mortgage is not a retirement plan)
2. When your residual income from all investment sources is enough to provide your desired standard of living
That's all information I've advanced over the years. What I hear you asking is how to know what the proper dollar amount of income will be in the future. For example, if I'm comfortable living on $8,000 per month, what would that $8,000 per month need to be in the future?
The first answer is that no one knows what the real inflation rate will be in the future - so it's an educated guess at best. That being said the historic average US inflation rate is 3.2% per year - which represents the best guesstimate for the future. But let's say that $8,000 per month in today's dollars would be the number that'd support your desired standard of living in retirement and you're desirous of retiring in ten years.
If the average 3.2% inflation rate held true over the next decade you'd need: $10,961.93 to retain the same standard of living as today.
Here's a link to an inflation calculator for you to input whatever specific information you'd like to use: https://smartasset.com/investing/inflation-calculator#gFJABAl26I
It's important to account for inflation factors with your retirement streams of income. This can happen through rising dividend payments from equities, annuities that increase payouts overtime, pension payouts, Social Security increases, etc. Otherwise you'd ensure that your standard of living in retirement would slowly deteriorate overtime due to inflation.
If you have a topic or question you'd like me to address email me: email@example.com