drivingFour Steps to Take on the Road to Retirement

A guide to financial and estate planning actions

Of all the major changes in life, retirement may pose the greatest long-term challenge. The prospect of leaving the workforce and drawing a regular paycheck might be a concern, posing a difficult question: Am I ready? For a life stage that can last to age 95 or longer, and raise significant financial questions, the planning tools and steps required to help you succeed are, for the most part, straightforward.

Create a spending and saving plan

At the core of a strong retirement plan is a spending and saving strategy that will help you live within your means today and at the same time prepare you for retirement. "Think of your strategy as a map," says Christine Fahlund, CFP®, a senior financial planner with T. Rowe Price.

"Knowing where you are now and where you want to go will help you understand your future income needs and how to get there."

Project your expenses. Begin by writing down an inventory of current expenses, both essential and discretionary. Then add a "projected" column to get a sense for what you may spend in retirement—and be sure to factor into your numbers the effect of inflation, which, at its current average annual rate of 3%, can double the cost of living in about 23 years. Consider changes in your spending patterns that may occur. For example, you won't be commuting to work each day, and you may have paid off your mortgage. Ask yourself if you plan to stay in your current home and how you plan to spend your time. "Dream about the life you want to lead," Fahlund says. "It will help you see the steps you need to take now to move toward your goals."

Save for the income you'll need. "Our research shows that you can build a sound retirement income plan if you follow some standard guidelines," Fahlund says. The rule of thumb is to plan on replacing 75% of your preretirement income. As much as 50% of that income may come from investments, 20% from Social Security benefits, and the rest from other sources such as a pension or part-time work. Most people need to save 15% of their annual income, including any employer contributions, to achieve those percentages. On the other hand, your savings percentage may need to be higher if you're getting a late start. Creating a spending and saving plan will set you on a path to achieving your goals.

Diversify your investments and accounts

The precise mix of stocks and bonds in your portfolio will depend on how close you are to retirement (see "Your Time Horizon" below) and your personal circumstances. Investors more than 15 years away from retirement should consider a portfolio with more than 80% allocated to stocks, since they provide the long-term growth potential you will need. As investors near retirement, they should gradually shift their allocation toward a more balanced mix of stocks, bonds, and short-term investments to dampen volatility.

Diversify your investments. You should hold a wide range of stock and bond sub-asset classes, including exposure to domestic and international equities and select small, mid-size, and large firms. Likewise, spread your bond holdings among domestic and international bonds that vary by maturity and credit quality. This broad diversification can help insulate your portfolio from sharp declines in any one segment of the market. And it can help you balance the risk and return of your portfolio. Of course, diversification cannot assure a profit or protect against loss in a declining market. "Globalization has made investing more complex," Fahlund says. "In turn, it's become more important than ever to prepare for a wide variety of potential events—including changes to the tax code, political unrest around the world, and rising inflation. Preparing for the unknown requires diversification."


As you approach retirement, your asset allocation should begin to shift. In the 10 to 15 years before you leave work, for example, up to 30% of your portfolio should be in a variety of bonds. The sub-asset class proportions within each category should remain as listed in the key the pie charts.

Pie Chart

Diversify your tax exposure with a Roth IRA and/or Roth 401(k) contributions. The majority of your retirement savings likely is held in a tax-deferred, employer-sponsored plan. You may have an opportunity to convert some of these assets to a Roth IRA and/or contribute to a Roth IRA or Roth 401(k) contributions to provide you with some tax diversification. "Roth IRAs and Roth 401(k)s give you the greatest long-range flexibility and control over your after-tax income both in retirement and afterwards for your heirs," says Fahlund, who points to these advantages:

  • Tax-free withdrawals. Contributions to Roth IRAs and Roth 401(k)s are made with after-tax dollars, and withdrawals of contributions and earnings are free of income tax as long you are age 59½ or older and have held the account for five years or more. Roth IRAs can be an ideal source of contingency money later in retirement. If you suddenly have large medical bills, for example, you could tap into the account without increasing your tax liability. (A distribution from a Roth 401(k) is tax free if taken at least five years after the year of your first Roth contribution, and you've reached age 591/2, become totally disabled or died.)

  • No required minimum distributions (RMDs). You will not have to take required distributions from a Roth IRA. Roth 401(k)s, however, do have RMDs. For this reason, many investors choose to roll over their Roth 401(k) assets to a Roth IRA account prior to reaching age 70½.

  • Future generations. Roth IRAs can be passed along to your heirs with many of their tax advantages intact, "stretching" the account and its potential growth for future generations. Heirs may take tax-free withdrawals of earnings from the account, as long as the combined amount of time the original account and the inherited account have been open is at least five years. Contributions made by the original owner of the account may be withdrawn tax-free at any time by the heir. Inherited Roth IRAs do have RMDs based on the account's value and the age of the inheritor. If the recipient is young, those withdrawals may be small, giving the majority of the assets in the account time to benefit from tax-free growth potential up to at least age 80 if the beneficiary chooses.

If you have a Traditional IRA, consider converting part of the account to a Roth IRA either prior to retiring or when you have retired and may be in a lower tax bracket. Since you will have to pay income taxes on some or all of the conversion amounts when you file your income tax return for that year, doing several partial conversions over a number of years may make it easier. Says Fahlund, "Having assets in a Roth IRA will provide you with more freedom to control your withdrawals later in life because you will not be subject to required minimum distributions. Instead, the assets in this account have the potential to grow while you focus primarily on tapping your taxable and tax-deferred accounts."

Get your estate in order

"Like every feature of your retirement strategy, the goal of your estate plan should be to provide you maximum flexibility and control over the future distribution of your assets," Fahlund says. Consult with your estate planning attorney and review the elements of your current plan, including titles on your investment accounts, beneficiary designations, and distribution provisions in your will and/or revocable living trust. Your plan should:

  • Include an up-to-date will and/or living trust;
  • Authorize both financial and medical powers of attorney to appropriate people, in the event you're unable to make decisions for yourself;
  • Minimize estate taxes if your estate exceeds either the federal or your state's exemption amount (or amounts, if you are married); and
  • Coordinate beneficiary designations on retirement plans and insurance policies with your overall estate plan and choose which assets to hold in joint tenancy with right of survivorship, since these designations and titles take precedence over your will or living trust assuming the applicable beneficiary/joint owner survives you.

Think carefully about your options when designating minor children as beneficiaries. Most state laws require money left to children to be held by a custodian only until the child reaches the age of majority, typically age 18 or 21. Consider setting up a trust if you would like to maintain control over how and when a child is eligible to receive distributions of principal and income.


No retirement plan is complete without insurance to protect against catastrophic events and liability. Some of the largest threats to your assets in retirement likely are expenses related to health care, long-term care, and accidents. The right insurance policies, with appropriate coverage, can help to keep certain events from jeopardizing your long-term financial security.

How much coverage is enough? The answer depends on your individual situation. "Start by looking for coverage against expenses that could potentially wipe out your savings," Fahlund says, "and search out policies with premiums you can afford."

  • Liability coverage. Make sure you have purchased enough liability coverage to protect your assets. You should consider buying an umbrella insurance policy, which can increase your auto and homeowners insurance liability coverage and provide you with overarching financial protection in the event you are ever sued. You may be surprised at the reasonable prices of many of these policies.

  • Life insurance. Ask yourself whether your family would have enough income to meet its various goals, such as college and retirement, if you pass away sooner than expected. A financial advisor can help you determine the coverage you're likely to need. If you are close to retirement, with grown, self-reliant children, you may not need life insurance. In fact, you might redirect the amount you would have spent on life insurance premiums to coverage such as long-term care.

  • Health. As you approach age 65, review the Medicare application process and take note of the deadlines. If you expect to remain employed after you attain age 65, check with your employer to determine whether you (and your spouse, if applicable) can delay applying for Medicare benefits until you terminate your employment. Medicare covers only about 50% of medical costs in retirement, so you will need to explore your options for purchasing a supplemental insurance policy to cover the rest, including coverage for prescription drugs. Check with your current employer to see if there will be any options to continue coverage under the company's health care plan once you retire.

  • Long-term care. "Long-term care insurance is important for many people, but especially so if there is a history of long-term, care-intensive conditions such as dementia in your family," Fahlund says. "Paying out of pocket for eight years of institutional care is likely to place a significant strain on your family's assets." It's important to investigate your options early and consider enrolling in a plan while you are in your 50s or early 60s when premiums are lower and you are still insurable.

Revisit your plan regularly. Retirement planning is a dynamic and continual process that should enable you to achieve your post-employment ambitions. Your vision for what is important in retirement will evolve as your children become adults, your career progresses, and you are introduced to new ideas and experiences. Begin the planning process as early as you can, and as you approach the year you hope to retire, consider embarking on a retirement transition strategy—when you continue working but at the same time try out the life you envision for yourself. Doing this will help you adjust emotionally to future changes as well as sharpen your vision for what you want to do next.

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2 Judith Ward, CFP®, explains how your expenses may evolve in retirement and what you can do to prepare.
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