The Finish Line Keeps Moving

This July I took a lovely vacation, longer than I have had off in a while. I visited family, and saw new places, and actually relaxed for a few days. I would love to do that more often.

On my return, I was soon working in the hospital with July interns. It was intense–both good and not so good–but exhausting. Everything that was not medicine went by the wayside: exercise, reading new books, watching suspenseful miniseries (I can’t wait to get back to The Night Manager).

Both experiences have left me wondering where my finances are vis a vis readiness for retirement.

I was thinking about this last summer also, and I think it is time to revisit that question: are we there yet? With the corollary: how can I figure out where the finish line is?

Join me as I walk through my rough calculations and figure out what I am still missing.

The Nest Egg and the 4% question

The simple answer to: are we there yet? is that if you have savings of at least 25 times your annual spending (25x), you should be able to retire at your current level of spending and never earn another dime. The harks back to a paper by William Bengen suggesting that a withdrawal rate of 4% of a portfolio (split between stocks and bonds) over 30 years should have a low rate of failure. Since 4% of 25x is X, we get the inverse truism, that having a nest of 25x your yearly spending should last you through a 30 year retirement.

There are arguments all over the internet whether 25x is fine, or if 30x or 33x [your annual spending] is safer, but the principle is the same.

Garbage In, Garbage Out

My problem last summer was that I thought I had 25x my annual spending, but when I looked more carefully, there were many things I had left out of my spending totals: real estate taxes, charitable spending, big-ticket house repairs, health insurance, and income taxes on my investments.

Disheartened, I took another look at my spending estimates, and I was able to identify some expenditures that would go away in retirement, like staff gifts and CME (assuming I am ready to give up my medical license).

Nevertheless, it looked like I would need to wait at least 3 -5 years to let my yearly savings accumulate and my investments appreciate, to get anywhere close to my “goal” nest egg. I say “goal”, because I still hadn’t addressed several other big issues (health care, taxes).

Here we are in 2021, after a year of paying real estate taxes out of my checking account (rather than the mortgage escrow account). Prices for groceries have gone up, and so have my utilities.

On the other hand, the stock market has been going up like gangbusters.

So where are my finances?

An Updated Number

To come up with this number, I added up my liquid assets I was planning on spending in retirement:

• tax deferred money–my 403(b) account
• tax-free money–my Roth IRA
• taxable money– my regular investments.

Then I looked at my monthly spending for 2020, subtracting my work expenses and also increasing funds for travel. (I spent only $12 a month on travel in 2020, and I hope to spend much more than that once I retire!)

I came up with assets equal to 29x my spending.

Am I done? Should I tender my resignation today?

Probably not. There are still a number of future expenses I realize I still have left out of my calculations.

Calculating Future Expenses

Last year I realized I had overlooked a number of expenses as I calculated our monthly (or annual ) expenses.

I addressed, at the time, our property taxes, home insurance, charitable contributions, and hoped-for travel plans.

I passed over three other categories of expenses: the large lumpy costs (for example: roof repair, new car, replacing big home appliances), health insurance, taxes on the investments we are planning to live on.

Which expenses did I remember this year?

This year my yearly spending includes the property taxes and home insurance.

Sometime soon, I will be setting up a donor advised fund, based on my accountant’s recommendations. You can read about this at Physician on Fire, but I will donate appreciated stock to–essentially–my own tiny foundation at a brokerage. I will get the tax break now, but can actually give the money to charities later.

This will reduce my nest egg by 1/2 x my annual spending (or 1x, or 2x), but will make sure that I have money to give away throughout my retirement. I can leave my charitable donations out of my spending calculations, even though I will still be able to give money away.

Figuring Out Lumpy Costs

A number of years ago I read a blog post talking about forecasting lumpy expenses. Of course, I can’t now remember who wrote it.

I thought it was a great exercise to think about expenses that you might have only once or twice in retirement, that aren’t really optional. I recall a table, set up something like this, noting the expense, and how often (in years) the expense might pop up:

This would suggest that I should plan for an extra $8880 a year in costs. They probably won’t come evenly, so I should put this money aside for when they hit (hopefully not all at once).

My big worry is that this list is not complete, and that I am missing several costly items. Of course, I should probably spend more than 10 minutes researching durability and cost when I put together this table for real.

I think focusing on this in the coming year will be a good project.

I may be able to avoid some pain of these costs by making sure I take care of the most expensive items before I retire. Though I am not looking forward to replacing the central AC, fixing the roof, and (possibly) replacing our aging stove and refrigerator, getting this all done while I have an income should reduce our chances of having to cough up a ton of money right after I stop bringing home a paycheck.

Health Insurance

This is still a difficult cost to forecast.

The price of insurance just seems to be going up and up; often with coverage shrinking just as quickly.

Our options are better than they were 15 years ago. The ACA did away with being denied coverage due to pre-existing conditions.

I hear that premiums for ACA plans are now capped at 8.5% of income, with subsidies covering the rest, but so far that is temporary for this year. It is not clear that this will continue (though I sure wish it would).

I think I will still punt calculating our health insurance costs for retirement while ACA subsidies are in flux. As retirement gets even closer, I will need to start shopping for insurance and see how our budget tolerates it.

In the meantime, I will take advantage of employer-sponsored insurance and keep saving more money for when I finally need to buy it on my own.

Taxes

As the saying goes, nothing is certain, except death and taxes.

For sure, Uncle Sam will be expecting us to pay taxes in retirement. So will my current state government.

There is plenty of variability in what I can expect to pay, and that’s not even taking into account the likelihood that tax rates will certainly change over the next 20 to 40 years.

The real truth is that my nest egg is not really going to support 29x our current annual spending.

Money from my tax-deferred accounts will be taxed as ordinary income when I pull it out. Depending on my total income for the year, this could mean taking a 12-24% haircut on those funds.

If I sell stocks from my taxable account, I will (probably) pay 15% on my gains. This means I have the ability to manipulate my taxable income for the year and thus change the taxes I pay. Put another way, I could sell $80,000 of stock and pay about 15% if the basis is very, very low; or maybe really just 7.5% if the stock has doubled since I bought it (so half of the money is just return of my basis), or possibly I could get a rebate on my taxes if the basis for the stocks was higher than $80,000. That is to say, if I lost money. Lots of variability here.

Lastly, the money in my Roth IRA will be totally tax free. Sadly, there isn’t nearly as much in this account as in the other.

At some point this year, I will need to decide how I want to adjust my nest egg calculation to account for the tax burden. I suspect I will find I have lost 3-4x my spending to taxes.

Future Work

I can see that I still have plenty of work to do before I can figure out how much money I need to retire (or at least, to feel comfortable retiring).

From my estimated nest egg 29x annual spending, I’ve knocked off 0.5 to 1x for a donor advised fund, and maybe another 3-4x for taxes. Now I’m down to 24.5-25.5x, which is almost in the good range. This assumes that we don’t have a drop in stock prices: a 20% drop means I lose 6x right off the top.

I still haven’t accounted for those lumpy costs. I will need to complete my estimates this year.

Not to mention figuring out what to do about health care coverage.

I sense another few years of work and employer provided health insurance before I get to retire.

Help a blogger out: what big expenses fell into my blind spot that I need to add to my table?