The easiest way to get started with comprehensive wealth management is to develop your FINANCIAL FINGERPRINT™. However, there is one metric that wraps many popular indicators into one, strengthening your retirement preparedness and helping you to ease into a safe retirement. We call this metric your Required Rate of Return™ or RRoR™ for short, and it is a key element of your FINANCIAL FINGERPRINT™.
What is RRoR™?
Your RRoR™ is the rate of return that you will need to earn on your investments during retirement to meet your planned expenses, without cutting into your principal. This figure takes into consideration the reduction in regular income from leaving your job and any changes in expenses or income that you expect during retirement.
While that may sound simple, RRoR™ is a product of a sophisticated retirement planning process, developed by Meld Financial, that we call your FINANCIAL FINGERPRINT™.
RRoR™ Accounts for Other Metrics
Retirement planners will generally estimate retirement expenses, future income sources and return on investments when developing your retirement plan. While knowing these figures is critical to understanding your retirement picture, RRoR™ makes it easier by combining them into a single metric.
RRoR™ was developed as a single point of focus that is simple enough to be calculated in a single meeting but is also personalized to your specific financial situation. Although the calculations are complex, the process is simple.
Calculating RRoR™️ is Simple
Developing your FINANCIAL FINGERPRINT™ is the easiest way to learn your RRoR™. One of the most important steps in this process is estimating your annual income gap in retirement. This is the difference between your expected expenses and expected income, and it is the basis for calculating your RRoR™.
Expenses are typically lower during retirement. In fact, a common estimate is 70-80% of pre-retirement expenses. However, this can vary drastically by person.
For instance, maybe you want to work on your bucket list soon after retirement, or maybe you will save a lot of money on commuting to work. In any event, this calculation is very personal and your FINANCIAL FINGERPRINT™ makes it simple.
Estimate Post-Retirement Income
Expected income will also be depend on your individual situation, and it also varies greatly from person to person. This is because everyone’s post-retirement income is different.
Some employers may still provide pensions plans that deliver a comfortable retirement income. In addition, some retirees will have investments that support their income during retirement or may stay busy with a part-time job. No matter your situation, a CFP® at Meld Financial can help you make these estimates.
Calculate Your RRoR™
Once you have your income gap calculated, the RRoR™️ is just income gap divided by estimated retirement savings. Let’s say you have $2M saved at retirement. You calculate your income gap to be around $100,000 per year and divide that by $2M. This results in a manageable RRoR™ of 5%.
On the other hand, let’s say you only have $1M saved at retirement with the same expected expense. In that case, dividing $1M by $100,000 would leave a RRoR™ of 10% which would be much more difficult to manage.
RRoR™️ is a Versatile Metric
A straightforward calculation of RRoR™️ yields the annual return that your retirement nest egg must meet for you to live off your interest earnings, without impacting principal. Using this measure can help you tailor a strategy that earns the needed return with the smallest amount of risk.
Another use of RRoR™️ is to work backwards from a reasonable yield to find how much you need to retire. Finding your annual income gap and dividing it by your preferred yield will result in the amount you need to have invested by retirement. When calculating your RRoR™, your CFP® should also account for inflation, which can eat away at your retirement savings.
Your RRoR™️ Can Change as You Save
The power of RRoR™️ is that it fluctuates as you save, and an effective saver will be rewarded with a more manageable RRoR™️. Let’s again say that your income gap is $100,000 and you have $2M saved, your RRoR™️is 5%. As you save, and interest works its magic, you build your nest egg up to $2.5M or $3M, and this will drop your RRoR™️ even further. The lower your RRoR™, the more likely you are to easily meet your retirement goals.
Changing economic conditions can also greatly impact the return you can get on your savings. If your investments are in the stock market, you must be careful to protect yourself from a downturn as you approach your retirement date. And, the same holds true during retirement. This means your RRoR™ and your actual return on your investments should converge as you begin reducing risk in anticipation of retiring.
As you can see, RRoR™️ is an extremely versatile tool that can benefit anyone saving for retirement. Not only can it provide retirees with investment guidance during retirement, it can also aid in predicting how much they would need to confidently retire.
Work with Meld Financial to develop your FINANCIAL FINGERPRINT™.
Working with Meld Financial to develop your FINANCIAL FINGERPRINT™ can ease the stresses related to retirement planning. If you would like help with estate planning, managing your wealth or preparing for a comfortable retirement, don’t hesitate to contact the team of financial and legal professionals at Meld Financial.