Reasons Retirement Calculators May Be Wrong
Recently an article online, admittedly from a commercial source of advertising services, caught my attention. The title was “5 Reasons Retirement Calculators Can’t Be Trusted”. The following statement from the author, Todd Tresidder, of financialmentor.com provided the following explanation: “Reveals the dangerous assumptions behind your retirement estimate and provides 5 simple steps to fix the problem.” I had the opportunity to read the article and noted that while the Financial Mentor had some good points compared to the standard retirement calculator assessment, even Todd missed some points that I would make.
Recognizing that none of us are infallible and as some would say “things just happen”, there are nonetheless some issues that have not yet crept into the software and other calculations that are used to arrive at predictions. reliable for retirement planning, where the main issue is “do I have enough to retire?” or said another way, “do I have enough to last the rest of my life?”
Still, Tresidder makes some good points and provides a fair description of traditional retirement calculators. (In the interest of full disclosure, I myself studied financial planning, but did not complete or pass the daunting Certified Financial Planner exam).
Obviously, this is an important question since no one wants to retire and then find they don’t have enough money to continue their lifestyle.
Here is a summary of the article.
Retirement calculators. As the article states, “…all pension calculators use the same basic assumptions to work their magic:
• Retirement age
• Life expectancy
• Return on investment
• Portfolio size
• And projected retirement expenses…
Some calculators will require more information depending on their sophistication. Others will work with less information because they assume answers to some of these inputs… The point is the calculation… They all calculate the same thing in roughly the same way using roughly the same input. This brings us to our first trick when using retirement calculators…”
The first “deception” is described as believing that the critical factor is the calculator used instead of the assumptions used by the calculator. There is a brief description of “Monte Carlo” calculators which are often used to attempt to predict a range of possible outcomes. If you’ve worked with a financial planner, chances are your planner used Monte Carlo simulations and frankly, that’s a good place to start.
In another article, Kathleen Coxwell at www.newretirement.com describes “Monte Carlo Simulations: A Sophisticated Way to Predict Your Chances of Financial Success” as follows: “When you run a Monte Carlo analysis, a computer performs thousands of calculations to predict a range of outcomes and determine what is: A worst-case scenario, A best-case outcome, Anything in between…” In other words, taking multiple variations into account, the financial planner or the professional tries to predict what may happen in the future.
What Tresidder does in his description is to point out that it’s the underlying assumptions that make the difference. He states “…essentially, the answer is built into the cake by the hypotheses chosen. It’s just math.
Tresidder’s lists of hypotheses include: “How long will I live?” “How much am I going to spend? “How should I estimate inflation?” “How much will my investments yield?” In fairness, all of these things are considered by most competent planners, but past experience or standard answers don’t always address individual issues.
A point I would make myself note is that the living and health conditions that are central to making decisions about the viability of a portfolio are generally overlooked. These almost always seem to be left out or overlooked in standard software programs. Some don’t even include medical expenses or health insurance premiums in the options. If you live to 100 but are healthy to 99, your plan will be very different than if you had multiple medical emergencies starting at age 70. If you continue your retirement at home and never travel, the outcome will be very different from moving to a continuing care retirement community and making world travel a priority.
Tresidder notes that plans are changing. They cannot be placed on a shelf. Financial assumptions need to be updated. These are some of the questions we consider when advising seniors about their financial plan and not just estate paperwork. It makes a difference.
Janet Colliton, Esq. is a Certified Elder Law Attorney. His practice, Colliton Elder Law Associates PC is limited to elder law, retirement planning, life care, special needs, guardianship and estate planning and administration, with offices at 790 East Market St., Suite. 250, West Chester, 610-436-6674, email@example.com. She is a Fellow of the National Academy of Elder Law Attorneys and, along with Jeffrey Jones, CSA, co-founder of Life Transition Services LLC, a service for families with long-term care needs.