One More Year!
Table of Contents
One More Year!
As many of you already know, here at Diversified, LLC we believe in the efficacy of financial planning. One of the core tenets of true financial planning is modeling. Not the kind of modeling that Gizelle does, but rather financial modeling. The potential benefits of financial modeling are plentiful; however, my favorite aspect is understanding what moves the needle.
What do I mean by, “move the needle?” You see modeling is an imperfect science as there are infinite unknowns about the future we can’t control. What we can control and glean from modeling is the net effect of our decisions. It can reveal if paying off the home early or investing makes sense. What happens if you buy a second home, or pay for all three kids’ college tuition? I really enjoy rolling up our sleeves together and helping decipher the data to make well-informed directional decisions.
What Happens When You Work One More Year?
One of the most interesting things about this process I routinely find is the net impact of working one more year. Naturally, this is when people really tune in as they are most apt to pay attention when it comes to the age at which they can retire. That said, people are absolutely shocked when they see the net difference of working one more (or each additional) year. The numbers can be staggering and the difference between dying almost broke or with millions of dollars left.
Now, every time I show this to someone and their jaw drops I have to start describing the why behind what they are seeing, as the numbers seem faulty. I figured, why keep it a secret and share with you all today as to all the things that go into the mass impact of working one more year?
- Save more– One of the more obvious factors that impact one’s plan by working more is they get an extra year of savings. Typically, individuals are at their peak earnings and thus savings years at the end of their careers. Furthermore, their expenses usually have dipped as kids are generally out of the house and off (or mostly off) the payroll. Combining all these factors means that each additional year of working affords you the ability to really squirrel away some substantial funds, which of course has a large impact on your net figures.
- Spend less– The next sizeable benefit is that you will spend less during retirement for each additional year worked. You see we assume, rightfully, that you will expire on the same date regardless. Thus, if you are going to pass away at 90 then each additional year worked means one less year of drawing on your assets. Simply put, if you retire at 60 and spend $100,000/yr your net spend will be $3M. If you retire one year later that figure, simply decreases to 2.9M.
- More compounding– Ah the beautiful world of compound interest. Now not only do you get to save more, and spend less (two great recipes for financial health) but perhaps the largest benefit for many is an extra year of compound interest on their retirement assets. By delaying retirement a year, it affords your assets not to be touched for an extra year. In doing so, it allows these assets to benefit greatly from more time compounding. If we look at that same $3M figure from above and your assets can grow unimpeded at let’s say 10% for an extra year that means you have $3.3M as your starting retirement amount vs. $3M.
The above three items are the largest contributors to how working one more year can benefit your retirement planning substantially. Of course, there are other factors not mentioned such as using working capital to finalize large purchases, and one more year to figure out how to spend your retirement years. However, at the core saving more, spending less, and another year of compounding can have a massive effect on one’s financial health come retirement.
If you combine these things you can see that if you are making good money and can save an extra $100,000 on that $3M portfolio, which now compounds another 10% thus giving your starting retirement asset number $3.4M vs $3M and now you only need to spend $2.9M in retirement you already have a $500k delta by waiting that one extra year. Oh and added benefit that is $500k more to compound over the next 30 years.
Grand finale
Hopefully, it all makes sense as to not only the impact of working an extra year but the validity and crucialness we believe financial modeling can provide in understanding one’s finances and financial decisions. That all said, this doesn’t mean you should work that extra year at all, as sometimes enough is enough. The exercise here, as always, is to educate and so you can see things from another vantage point which ideally gives you more knowledge to understand what is right for you.
As always stay wealthy, healthy, and happy.
