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Old 01-07-2014, 08:18 AM   #21
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You're talking about something that is playing double-edged risks and probabilities off each other, i.e., deciding between buying a proposition for which the down-side is low probabilities of terrible things happening [with the up-side being low probabilities of great things happening], on the one hand, and buying a proposition for which the down-side is high probabilities of marginally bad things happening [with the up-side being high probabilities of marginally good things happening]. With so many moving parts (probabilities and the dual-edged nature of the consequences) the determination of what's optimal is going to be very much a personal decision. It's a matter of risk tolerance in two dimensions. Your assumptions may be the perfect assumptions given your own situation, and (more importantly) your own priorities, while being completely inappropriate for other people.

In the context of the situation my spouse and I find ourselves in, I highlighted the specific assumptions that would categorically destroy any chance we would have of achieving our dreams. YMMV. So the question boils down to, taking that as a given, which do you wish to choose: taking exceedingly little risk and resigning and consigning yourself to disappointment, or taking some more risk and thereby incurring a small possibility that you could end up in trouble later on.
You make good points. Thanks for your thoughts. I would love to hear your alternative assumptions for

1) Long term inflation is 3.5% versus the 2%-2.5% over the last couple of decades
2) Medicare does not kick in until we are 67 and not 65 as today.
3) Medicare premiums twice as expensive in 2014 dollars as today.
4) Social Security benefits ... will be fully taxed as opposed to 85% taxed as today.
8) All investments including IRAs return 1% beyond inflation every year. Likely allocation being 50/45/5.

I want to be pessimistic but not unreasonably pessimistic as I could then miss out on doing something fun or great for fear of lack of funds. Hear your assumptions could help me calibrate my assumptions.
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Old 01-07-2014, 02:33 PM   #22
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You make good points. Thanks for your thoughts. I would love to hear your alternative assumptions for
I use three different retirement planning tools. As a rule, unless I have a specific personal reason to change something I use the defaults because smarter people than I set the defaults. I do, of course, enter personal info as applicable (i.e., my portfolio size, my age, my expected SS amounts, etc.), and I will make conflicting defaults between different tools consistent so their results ostensibly support each other better. There's enough divergence in their methodologies - no sense in making it worse by starting off with inconsistent default assumptions about returns, inflation, etc.
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Old 01-07-2014, 08:27 PM   #23
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I do have a different take with a lot of the assumptions being made including those by the OP and Live and Learn and pb4uski.

First - let me be clear - If making those assumptions helps you to be more confident about retirement and is what is necessary so you can sleep at night then it works for you and it doesn't matter what I or anyone else thinks.

Second - there may be some people who would think that those kinds of assumptions are necessary for everyone and who might not retire because of using those assumptions. I know that I personally tend to be risk averse and there is benefit in it. On the other hand, you can't get time back and if I retire later due to unreasonably pessimistic assumptions then I've lost that time forever.

Third - Using such pessimistic assumptions is nice for people who have lots and lots of money and you can use them and still retire really early. I mean that in all sincerity. But, for many people (most probably) using those kinds of assumptions might been retiring at advanced age or even never retiring at all. There's that time thing again.

Fourth - The biggest problem I have with the long list of assumptions for all the one's I've mentioned is with the conglomeration of them all and not the individual assumptions.

That is, while bad stuff happens and more than one bad thing happens is far less likely that every bad thing will happen.

So, planning for every bad thing to happen is probably overkill even though each individual thing could happen.

An example from my life. I used the each year budget for various "bad things" that could happen. I had once had $6000 in auto repair in a year. Or, once I had $13,000 in household repair one year (mostly tree clean up after a hurricane). And, I had a year with lots of unreimbursed medical expenses ($15,000 or so).

Now all of that didn't happen every year. It could happen in one year but it was vanishingly unlikely that it would.

So to budget $34,000 each and every year just because those things could happen would be overkill. The likelihood was that maybe one of them would happen in a year. In fact, most might never happen again in my lifetime. I realized that instead what would work better was to budget a typical amount for those types of things - an average for auto repair, etc. based upon typical years. Then, put $X into an irregular expense food that would cover one of those things happening in a year. If it didn't happen, then carry it over until I got to some predetermined maximum.

So - the problem with the OP's list is that while I think some of those thing could happen it seems extremely unlikely that all of them will happen. Same thing with Live and Learn's list.

If it was me, I would do one of two things to deal with those kinds of things. One option is set aside some amount outside the regular portfolio to collectively handle the possibility that some those kinds of things will happen. However, I wouldn't personally feel that I had to guard against every one of them happening. It would be enough to come to some reasonable reserve for a reasonable number of them happening. This is sort of like my irregular expense fund.

The other option (and the one I've used) was to go through my projected budget and think about how I would cut expenses if various things occurred. If I can cut enough expenses without negatively affecting my quality of life than I feel OK.
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Old 01-07-2014, 10:11 PM   #24
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So to budget $34,000 each and every year just because those things could happen would be overkill. The likelihood was that one of them would happen in a year. In fact, most might never happen again in my lifetime. I realized that instead what would work better was to budget a typical amount for those types of things - an average for auto repair, etc. based upon typical years. Then, put $X into an irregular expense food that would cover one of those things happening in a year. If it didn't happen, then carry it over until I got to some predetermined maximum.
This is exactly what I do. For my first few years in retirement, I just let the unused "irregular expense" money stay in my portfolio. However, I realized that I was still irrationally worrying about something big and expensive going wrong and breaking my budget. So a year or two ago I decided to start actually moving that unused money into a separate account, and I don't include that account when calculating year-end portfolio value for WR purposes. I know it's all just funny math, but it seems to work better for me to have a physical "emergency" account that is separate from everything else.
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Old 01-08-2014, 09:30 AM   #25
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Here are the assumptions I have been using:

45 year plan (live till 95)
Inflation = 2.5% and 7.5% for medical costs
Average annual return on investments = 6% with a AA of 65/20/15
Annual expenses: Essential = 65% and Discretionary = 35%
Decrease annual expenses by 12% at age 75.
Assume no SS or Medicare benefits.
Medical costs (% of expenses) = 18% at age 65, 25% at age 75 and 35% at 85.
Tax rate on taxable accounts is ~12% and slowly decreases to ~3% at age 70.
Tax rate on tax-deferred accounts (RMD) starting at 70 is ~13%.
Purchase car every 7 years (only if it cost more to maintain vs. buying).

I think my overall plan is conservative. The 2.5% inflation rate is probably on the low side, but if you add in the 7.5% inflation rate for medical cost it ends up being around 3.5% inflation rate.... Big unknowns are "real" medical costs and how taxes will changes over time. I know assuming "no" SS or Medicare is very conservative. If I do account for in in my planning I only use 75% of what I would get in benefits. I'm not counting on the clowns in Washington to fix this any time soon....
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Old 01-08-2014, 10:10 AM   #26
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I agree with others that it is okay to budget for some bad things to happen but for us we are not planning on the the likelihood that every bad thing that could possibly happen will happen and last for years. We had four friends die this past year so we are trying to make it a point to enjoy life while we can. We don't want to save up enough money so that we have only a .000001 chance of a financial failure rate but a 2% chance of dying each year before we actually retire.

The things we plan to do for our semi-ER are live very simply with low expenses, continue to work part time with lap top jobs for extra income and to keep our brains active, and most likely retire to a warm and sunny scenic EU member country with a large ex-pat population and lower health and long term care costs.

U.S. health care costs are many times higher than other countries with higher rated health care systems, so reducing those costs takes away a huge reason for many retirement failure stories in the U.S.
It isn't like the U.S. is even twice as much as other countries for common medical costs. For many procedures and operations the costs are 1/6 or less of U.S. costs:

http://www.washingtonpost.com/blogs/wonkblog/wp/2013/03/26/21-graphs-that-show-americas-health-care-prices-are-ludicrous/

Plus the higher rated health care systems seems like a plus the older we get and the more things start going wrong.
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Old 01-08-2014, 10:28 AM   #27
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Originally Posted by kmt1972 View Post
. Hear your assumptions could help me calibrate my assumptions.
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Old 01-09-2014, 05:52 AM   #28
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1. I use inflation rate about 1%
2. Medicare at 67
3. Return on investment 2-3%
4. social sec benefits fully taxed, will start collecting at FRA
5. 401k plan increasing 1% per year (money market)
6. Since i have a pension both in the UK and Europe, i plan for USD EURO GBP constant exchange rate, although I think the USD will depreciate against the Euro within 10-20 years.

I turn 49 this year.


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Originally Posted by kmt1972 View Post



1) Long term inflation is 3.5% versus the 2%-2.5% over the last couple of decades
2) Medicare does not kick in until we are 67 and not 65 as today.
3) Medicare premiums twice as expensive in 2014 dollars as today.
4) Social Security benefits ... will be fully taxed as opposed to 85% taxed as today.
8) All investments including IRAs return 1% beyond inflation every year. Likely allocation being 50/45/5.

I want to be pessimistic but not unreasonably pessimistic as I could then miss out on doing something fun or great for fear of lack of funds. Hear your assumptions could help me calibrate my assumptions.
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Old 01-09-2014, 07:18 AM   #29
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I did do a more rigorous look at inflation. Best place to look are the TIPS break-evens and the inflation swap market. Getting that info and then stripping the curve. One gets the implied inflation of the next 30 years by year.

2014 1.63
2015 1.99
2016 2.31
2017 2.42
2018 2.84
2019 2.82
2020 2.88
2021 2.94
2022 3.00
2023 3.07
2024 3.10
2025 3.13
2026 3.14
2027 3.14
2028 3.15
2029 3.14
2030 3.13
2031 3.12
2032 3.11
2033 3.10
2034 3.05
2035 2.99
2036 2.94
2037 2.89
2038 2.84
2039 2.85
2040 2.87
2041 2.88
2042 2.89
2043 2.90

On the long run (after 2021) this seems to indicate that the market feels long term inflation is around 3%. I did a look at the history of 30 year inflation expectations since 2004 and found that the SD is around .3%. I like using 1 SD more pessimistic assumptions from the expected value. So will use 3.3% for long term inflation although fro the 2013-2016 period I will go with what the market expects.
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Old 01-09-2014, 07:24 AM   #30
Recycles dryer sheets
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Quote:
Originally Posted by bradaz2488 View Post
Here are the assumptions I have been using:

45 year plan (live till 95)
Inflation = 2.5% and 7.5% for medical costs
Average annual return on investments = 6% with a AA of 65/20/15
Annual expenses: Essential = 65% and Discretionary = 35%
Decrease annual expenses by 12% at age 75.
Assume no SS or Medicare benefits.
Medical costs (% of expenses) = 18% at age 65, 25% at age 75 and 35% at 85.
Tax rate on taxable accounts is ~12% and slowly decreases to ~3% at age 70.
Tax rate on tax-deferred accounts (RMD) starting at 70 is ~13%.
Purchase car every 7 years (only if it cost more to maintain vs. buying).

I think my overall plan is conservative. The 2.5% inflation rate is probably on the low side, but if you add in the 7.5% inflation rate for medical cost it ends up being around 3.5% inflation rate.... Big unknowns are "real" medical costs and how taxes will changes over time. I know assuming "no" SS or Medicare is very conservative. If I do account for in in my planning I only use 75% of what I would get in benefits. I'm not counting on the clowns in Washington to fix this any time soon....
Thanks so much. What you wrote also reminded me of other assumptions I am making. Namely a) Assume I will live to 95. b) Health Care costs (Cost of Platinum plan + Max OOP) rises 1% greater than inflation.

You make a good point that perhaps my assumption that the slower rate of
health care costs in the last few years might will continue perhaps might be too optimistic. I think I will use inflation+2% for health care cost.

I do feel that Medicare and SS will be around when I retire put at a reduced benefits since there will be a lot more means testing. Of course simultaneous pessimistic assumptions now hedge each other. Because I have pessimistic assumptions on the rate of return, my AGI will not be so large as to trigger very significant means testing reductions. Of course if my rate of return is more "normal" then for sure I can even assume that SS and Medicare will be gone but it will be a non-issue since the large AGI will carry me.
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