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Retirement Calculators Have Their Limits

Financial calculators are all over online. These calculators are praised as being the ultimate authority when it comes to saving money for your future. You're told you should use these to calculate how much money you need to save over your lifetime. But, do they work?

The problem I have with retirement calculators is that they are strictly quantitative, not qualitative. In other words, you get numbers, but those numbers aren't tied to any personal values. Even when they are, they're not firmly tied to anything beyond arbitrary lifestyle assumptions that you or your financial adviser devise.

One other issue I have with retirement calculators is that you cannot predict inflation and investment returns with accuracy in cases when you don't understand what drives the investment or monetary inflation. This means that if you don't know what the Federal Reserve will do over the next 20 years (if you do, you're more knowledgeable than any economist alive today), and you don't know how inflation will affect the companies you're buying, then you cannot accurately predict their exact rate of return. you might not even get "in the ballpark." Does this mean you shouldn't invest? Not at all. Does it mean you should not rely on a set number when making assumptions about your future income need. Yes. You should not rely on a specific rate of inflation or investment return when such numbers are not fixed.

Here's the deal: Retirement calculators rely on the premise that you should define a lifestyle and then work towards that lifestyle. This is deductive, and ends up creating a financial plan which looks brilliant on paper, but is -- in reality -- arbitrary.

The solution: Realize what you can control, what you cannot. Define a central purpose in life, and make goals based on this. This, and only this, will define your lifestyle objectively and solve all retirement planning problems.

From here, it becomes clearer what type of savings plan to adopt. You'll organize your savings according to what you need to do to fulfill rationally defined goals. You'll be drawn towards investments which you know about, rather than what some financial guru or planner says you should be drawn towards. Predictions of future returns become easier when you know why investments return what they return. But, you won't really need to rely on hypothetical assumed future returns or numbers on a spreadsheet that are projecting rates of return 30 years into the future.

You'll be so focused on creating values and income now, that you'll create sufficient future savings which will be sufficient to support you should you become unable to work for a living. A proper budget will ensure that you have sufficient savings, and it will also ensure that you are adjusting your savings each and every year to account for inflation.

My advice? Take retirement calculator calculations with a grain of salt.

This entry was posted on May 29th, 2011 by David C Lewis, RFC. Edits may have been made to keep this entry current. · 1 Comment · Budgeting & Money Management, Insurance & Savings, Philosophy In Financial Planning, Retirement Planning

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