The Biggest Mistakes People Make Planning for Retirement

Retirement planning is a daunting exercise for most Americans. Saving as much as possible for our “golden years” is a message we hear early and often. 

We need to maintain our desired lifestyle, meet unforeseen expenses, and navigate the challenges of aging without becoming a financial burden to others. Quality planning provides peace of mind, so we can focus on exploring new hobbies, traveling, or simply relaxing, knowing that our financial well-being is secure.

But retirement planning takes discipline and commitment. This article covers the common pitfalls people make when planning for retirement.  

Estimating Longevity
Claiming Social Security Benefits
Starting Late
Not Saving Enough
Overlooking Healthcare Costs
Ignoring Inflation
Investing To Conservatively or Aggressively
Not Reviewing and Adjusting Investments
Not Considering Long-Term Care
Withdrawing Too Much, Too Soon
Neglecting Tax Implications

#1. Estimating Longevity

An essential piece of information that most people struggle to understand is accurately estimating your longevity. In other words, how long are you likely to live once you hit retirement age, which is typically 65?

Only about 1 in 10 U.S. adults have a solid grasp of how much longer people live past 65 years old, as well as the likelihood of living to 90 years old versus dying by age 70. Although such calculations may sound morbid, they are vital to planning for a secure old age because workers will need to make their dollars last for retirements that are longer than in previous generations, thanks to longer lifespans. 

Often, people base their decisions about their likely retirement spans based on their parents' or grandparents' experiences. Consider a personal experience like this: "'Hey my grandma passed away at such an age, men in my family pass away at such an age.” 

This doesn't take into account the critical changes in life expectancy that have occurred during the past several decades, with advancements in treating chronic diseases and medical services that are keeping us healthier for longer. 

It reflects the fact that people tend to believe they'll die earlier than is statistically likely, which means they might not be saving enough for retirement. The first thing you need to do is to start from the back, then you can decide how much you need to save for retirement. After all, you can't provide for 30 years of retirement with 15 years of savings.

Example: Sarah planned her retirement funds to last until age 85, based on her family's past life expectancy. However, advancements in healthcare and her active lifestyle saw her living well into her 90s. She soon found herself financially strained.

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#2. Claiming Social Security Benefits

When should you choose to claim Social Security benefits? Should you begin at age 62 or wait until 70? This decision can have significant implications. 

There's a financial incentive to wait as long as possible, since your monthly benefit will grow the longer you wait, with payments maxing out at age 70. Yet only 6% of U.S. workers wait until they turn 70 to claim Social Security, while 30% claim at age 62, when they will receive their smallest possible benefit amount.

To be sure, many workers take Social Security as soon as they can at age 62 because they have no other financial choice. But some Americans may be claiming the entitlements at that age because they misjudge their potential longevity, estimating they might die earlier than is statistically likely. 

Research has found that the typical worker is leaving $182,000 in lifetime discretionary income on the table by claiming before they turn 70 – income that many retirees could use given that most Americans haven't saved enough.

Example: Jane retired at 62 and immediately claimed her Social Security benefits, receiving a reduced monthly amount due to her early claim. Her friend Mark waited until he was 70, allowing his benefits to accrue delayed retirement credits, resulting in a substantially higher monthly payout. Over time, Mark's decision to delay meant thousands of dollars more in benefits.

#3. Starting Late

The earlier one starts saving, the more he or she can benefit from compound interest, which exponentially grows savings over time. Delaying this start means missing out on these potential gains, requiring larger contributions later to catch up and achieve the same retirement goal.

Example: James, believing he had plenty of time, began his retirement savings at 50. In contrast, Sarah started at 25. Both set aside $500 monthly at a 7% annual return. By 65, Sarah’s compound interest yielded over $1 million, whereas James accumulated just over $150,000.

#4. Not Saving Enough

Inadequate savings can lead to an unexpected shortage during retirement. By underestimating the funds required, individuals risk adjusting their lifestyle downward or facing financial strain. Proper planning ensures that the retirement lifestyle envisioned is what's experienced.

Example: Rebecca expected to live on 60% of her pre-retirement income. But unexpected healthcare costs and hobbies meant she needed closer to 80%. This miscalculation forced her to modify her retirement lifestyle.

#5. Overlooking Healthcare Costs

Healthcare is often one of the most significant expenses during retirement. Assuming that all costs will be covered by Medicare or other programs can lead to unexpected bills. Being unprepared for these costs can deplete savings rapidly and create stress in what should be relaxed years.

Example: Martin, relying solely on Medicare, was caught off guard by significant out-of-pocket costs after a surgery. This unforeseen expense took a toll on his savings.

#6. Ignoring Inflation

The purchasing power of money decreases over time due to inflation. By not factoring in this continuous rise in prices, retirees might find their savings insufficient. This erosion in the value of savings makes goods and services more expensive and undermines the retiree's purchasing power.

Example: Linda's retirement savings of $500,000 seemed sufficient. Yet with an average 3% inflation rate, her money's real-world value diminished steadily. By her retirement, she struggled to maintain her desired living standard.

#7. Investing Too Conservatively or Aggressively

Striking a balance in investment risk is crucial. Being overly conservative might mean returns don’t outpace inflation, losing money in real terms. Conversely, being too aggressive can expose savings to unnecessary risk, leading to potentially significant losses.

Example: John, wary of market dips, stashed his savings in a low-yield account, barely keeping pace with inflation. Conversely, Peter pursued high-risk stocks and lost a substantial amount during a market downturn.

#8. Not Reviewing and Adjusting Investments

As people age and approach retirement, their risk tolerance typically decreases. If they don't periodically review and adjust their portfolio, they might be exposed to greater market volatility than is suitable. Rebalancing ensures alignment with financial goals and risk tolerance.

Example: Alice maintained a 90% equities-based portfolio since her 20s. Not rebalancing meant that a bear market close to her retirement substantially reduced her funds.

#9. Not Considering Long-Term Care

The possibility of requiring specialized care or assisted living increases with age. Failing to plan for such scenarios can quickly drain retirement savings. Without long-term care insurance or a financial cushion, retirees might struggle to afford the care they need.

Example: When Esther developed dementia, the specialist care she required was beyond her children's means. Lacking long-term care insurance, their savings rapidly diminished.

#10. Withdrawing Too Much, Too Soon

Retirement savings are meant to last throughout retirement, which could span decades. Unsustainable withdrawal rates increase the risk of outliving one's savings. Proper withdrawal strategies help ensure financial stability throughout the entire retirement phase.

Example: After retirement, Nathan began drawing 10% of his savings annually. As his savings decreased over the years, he faced the genuine threat of outliving his money.

#11. Neglecting Tax Implications

Different retirement accounts come with varied tax implications upon withdrawal. Overlooking these can result in unexpected tax bills, reducing the available retirement funds. Proper tax planning can optimize withdrawals and minimize tax burdens.

Example: Claire, with most of her retirement savings in a traditional IRA, was stunned by her tax bill upon withdrawal. Had she explored tax diversification strategies earlier, she could have minimized her retirement tax burden.

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Taking the Next Step

Effective retirement planning is a healthy, realistic mix of financial foresight, adaptability, and self-awareness. Recognizing and comprehending common mistakes can immensely improve one's preparation for life after work. The essence lies in starting early, being informed, and not just focusing on the financial side but also preparing mentally and emotionally for this next phase of life.