Occam's Razor

My stepmother says that retirement is just another stage of life. After two years of retirement I’ve learned that she is right. It’s definitely a new stage of life for my wife and I. Many of the old rules no longer apply. For one thing, the rules of managing our finances have changed pretty drastically.

For example, when we used to have a mortgage, the bank did a lot of the thinking for us. They figured out our probable property taxes and paid them automatically for us. Since they had a stake in our house, they also worried about our home insurance and insisted on paying that too. All we had to do was give them a fixed amount of money every month in addition to our mortgage payment.

That’s changed. With no mortgage, my financial life actually got more complicated. Instead of one convenient payment, I now have to think about setting aside money for property taxes and home insurance. These are not exactly trivial expenses. Our property taxes are close to $8000 a year, which means I have to have $2000 set aside every quarter to send to the city, no ifs, and or buts. Moreover I (not the bank) need to remember to send these payments in. It used to be so simple.

Almost by definition when you retire you live on less money than when you were working. If you screw up your personal finances it becomes harder and more painful to make up for excessive expenditures. Because I am pushing 60, I cannot assume I can go out and find another job to make up the difference. This means I have to watch how I am spending money. When I see large differences between expected and actual expenses, I have to figure out what to do about it. The choices boil down to pulling money out of our portfolio on the assumption we won’t spend it all before we die (always a chancy proposition) or cutting expenses. Yes, it’s possible to take out a loan to live a larger lifestyle, but it’s counterproductive. You can’t dodge your financial mistakes when you live on a fixed income.

It’s a good thing retirement gives me the time to analyze these things. In truth though we are just emerging from a time of great transition that followed our retirements. Only now after moving four hundred miles, selling one house, buying another house and even living in temporary housing for five months are things starting to settle down. Our transition created so much uncertainty that keeping a budget was pointless for the last few years.

Steering your financial ship in retirement is a lot like taking a sailboat out on choppy seas and into a storm. You have a pretty good idea where you need to go but the end is hard to see. At best there are shapes in the mist and you have to rely on your handy compass, buoys and nearby lighthouses for general navigation. We have reached the point where the waves are 1-3 feet, visibility is good and the sun is shining. But there is more work to do. The deck needs a lot of clearing and new sails need to be raised.

So many things have changed. Take taxes. It used to be I sent a W-4 to payroll and hoped enough was withdrawn from every paycheck to pay our income taxes. In Massachusetts where I live now there is no reciprocal agreement with the federal government (my former employer) for withholding state taxes from my pension. So I have to remember to pay estimated taxes every quarter. That’s not too hard. I add it to my Google Calendar. The harder part is figuring out how much to send the commonwealth.

The commonwealth is unforgiving. Last year we were new residents. I didn’t start withholding estimated taxes but when I estimated our state taxes they looked minimal, under a thousand dollars, so I didn’t bother. I had bigger fish to fry. I learned later that the law is if you owe more than $400 when you file your tax return that you owe a tax penalty. Our taxes were about $800, so the comptroller eventually sent us a tax penalty bill. Frankly, I was pissed. I had sold a house, bought another one, spent four months in one state and the rest in another, estimated our state taxes as best I could and they were still going to ding me for this? Yes indeed. Fortunately the penalty was less than $20. It was cheaper to pay the penalty than to figure out for sure if I was subject to one.

We’re in a new house but of course this house will degrade over time too. Roofs will have to be replaced. Cars will need to be retired and new ones bought. The cost of maintaining a standard of living is never cheap but living on a fixed income means I have to anticipate these major expenditures. Yet they are so variable it’s hard to know how much to put aside. In twenty years when the roof needs replacement (assuming it lasts that long) how much will it cost to replace?

There’s no way to know for sure, but I did check how much it cost to put new shingles on our old house (about $3000 in 2002). I assumed an inflation rate of 3% over 20 years. This suggested that in 2035 I would need about $5800 to replace the roof. Effectively if I set aside $25 a month now for this future, we’ll be all set in 2035 … if my assumptions hold true. Looking at all our major future expenses like this, it amounted to about $350 a month that I needed to set aside. Or I could choose to ignore them and hope when the time came I had enough cash sitting around. That’s not a good idea because taking money out of a retirement portfolio usually means you pay taxes on what you take.

I also need to periodically look at my tax withholdings. Tax software makes this somewhat less painful but it can only project based on current tax law and expected income, deductions and credits. So I need to read news sources on changes to tax laws to anticipate them.

The good news is I am getting pretty good at all of this. I’m refining a system, basically a fancy spreadsheet with lots of worksheets. I’m thinking if I do need extra income, maybe I should set myself up as a retirement financial consultant. Only I haven’t really tested my system. It will take ten or more years of experience to know if my methods work, but if they do it should be worth something to someone.

To truly live on a fixed income though you need a system or you need a portfolio with lots of extra cash in it that you can draw from when you make mistakes. Perhaps I could sell this as a service, much like my bank used to do with my mortgage payment. You give me X dollars a month and I’ll make sure you have just enough cash to pay these bills when they come due. I’ll pad my portfolio with their fees because they won’t want to wrap their mind around this stuff. Maybe $50 a month would be fair.

Meanwhile, I’ll keep refining my spreadsheets. I’ll get it right one of these days; I know it.