The Golden Girls Dilemma: How Inflation Affects Retirement Planning

May 26, 2023 | Estates Planning and Asset Protection

Even though The Golden Girls ended more than 30 years ago, Dorothy, Rose, Blanche, and Sophia remain some of the most famous retirees in pop culture. 

The show was a funny (but realistic) representation of the challenges retirees faced retiring during a period of higher-than-average inflation. Over the last five years, the show has experienced a renaissance as Gen X and Millennial workers deal with similar issues.

As new generations begin planning for retirement, it’s more important than ever to factor inflation into the calculations. Not sure where to start? An experienced retirement planning attorney can help. 

The risks of inflation for retirees

You don’t have to be close to retiring to know that inflation—the increase in prices of goods and services over time—is real. Even Gen Zers probably have the occasional “I’m turning into my parents!” moment when they catch themselves complaining about how low the price of gas was when they got their license a few years ago.

The truth is that while inflation reduces purchasing power across the board, it represents a major quality of life risk for retirees. If you don’t factor inflation into your retirement plans, you run the risk of:

  • Having to downsize or lower your standard of living over time
  • Needing a job to meet expenses
  • Outliving your savings

Contrary to popular belief, though, there isn’t a single “number” that guarantees you’ll be able to maintain your standard of living through retirement. The right number for you depends on a range of factors, including your personal goals for retirement, debt obligations, medical needs, and where you live. 

How inflation affects retirement money

There are three main reasons why inflation plays a key role in retirement planning: 

  1. Most retirees have fixed incomes. Even if their retirement savings give them more than enough at the beginning of their golden years, inflation rates will make that number insufficient after 20 years or so.
  2. Inflation tends to disproportionately impact healthcare, long-term care, and housing—the goods and services retirees spend most of their money on.
  3. Traditional retirement vehicles such as Social Security, pensions, bonds, and CDs don’t usually provide returns that keep pace with inflation.

Here is a breakdown of how different methods of retirement planning can be affected by inflation.

Investment portfolios

It’s normal for financial advisors to tell conservative clients their money is safe in the stock market because, over time, it consistently provides the highest returns of all investment options. That “over time” qualifier is the kicker, though—retirees may not have the same margin of error as someone in the workforce if the market takes a dip (or a dive).  

Inflation isn’t always a bad thing for stocks and mutual funds, but the higher interest rates associated with inflation often are. Additionally, high inflation and intervention from the Federal Reserve can make markets volatile and force retirees to sell stock or make withdrawals at a loss.

Social Security benefits

Most people who are already retired expected Social Security benefits to replace approximately 40% of their income

The program has played a critical role in reducing poverty and supporting seniors, but if you’re still in the workforce, it’s likely in your best interest to consider Social Security income more like a bonus than a salary. 

This is because the government makes annual cost-of-living adjustments (COLA) to Social Security benefits each year, but those adjustments rarely match the inflation rate. The COLA increase in 2023 is 8.7%, the highest in 40 years, but inflation rates topped 9% in 2022.

It’s also no secret that Social Security is underfunded as a whole. If inflation rises significantly, it could exacerbate the trust fund gap, which increases the likelihood that Congress will have to reduce benefits, increase taxes, or both. 

Pensions

Experts estimate that nearly half of U.S. retirees rely on a pension plan for at least some of their income.

Pension payouts are usually based on your salary in your last few years of employment, and not all pensions provide cost-of-living adjustments. This means that even if inflation never surpasses the 3% annual average increase, it won’t take long for your purchasing power to be reduced.

As an added issue, whether inflation is high when you retire or it goes up after you’re done working, the salary your benefits are based on won’t reflect how much someone is currently getting paid for doing the same job you used to do.

Either way, it’s common for the value of a pension to not keep up with the price of goods and services over time.

401(k) plans

A 401(k) is one of the most flexible ways to plan for modern retirement, but it’s not perfect. They don’t offer COLA adjustments, and it’s possible for inflation to wipe out your returns. 

For example, if you’re getting a 6.5% return but inflation is at 5.9%, your profit is almost negligible. 

Real estate

When it comes to real estate, many people confuse inflation (increased value related to the value of currency) with appreciation (increase in value over time as a result of demand). 

For example, if you increase rent at your rental property during a period of high inflation, your net gain probably won’t change because everything else costs more as well. But increasing rent because the property is in a valuable area will likely result in increased profit.

Another point to consider: the high-interest rates that often come with high inflation make getting mortgages and other real estate loans more difficult, which in turn decreases demand and the value of your investment.

Personal savings

Depending on their personal goals and the amount saved, most retirees live off some combination of the interest and principal of their retirement savings. While it’s possible to live solely off the hard cash you’ve saved, denying yourself the benefits of compound interest is a mistake you don’t need to make.

Bank products like savings accounts, CDs, and money market accounts do deliver some return on your investment, but they rarely keep up with inflation long-term. If you don’t use interest as a backstop against inflation, your saved dollars will be like a new car you drive off the lot—the value will do nothing but decrease.

How to plan for inflation in retirement

Don’t let this list make you feel like it’s futile to even attempt to save for retirement, because it’s not.

In fact, inflation protection during retirement comes down to one thing: diversification.

Each of the asset classes we’ve talked about in this post is affected slightly differently by inflation, and the weakness of one can be the strength of the other.

Here’s a quick example: 

The potential high return rate of a diversified stock market portfolio and a 401(k) comes with a higher level of risk, especially if inflation is high and you need to make withdrawals. But if you can pull from your personal savings until rates go down, you can keep market trends working in your favor.

Safe investments like treasury inflation-protected securities (TIPS)—which are tied to the Consumer Price Index, never pay out less than the initial investment, and often offer a modest rate of return—can help reduce your losses when the economy is struggling.

Another option for reliable returns in retirement is real estate investment trusts (REITs). REITs are companies that own or manage large commercial and residential properties, and while they typically don’t deliver the high level of returns that come with other real estate investing, they also tend to be less affected by inflation.

Just like combining the different personalities and backgrounds of the Golden Girls was a winning formula for lasting success on TV, having a diverse group of asset classes in your retirement portfolio can be the key to a successful retirement.

Let our team help you plan and protect your retirement savings

The team at Shann M. Chaudhry, Esq., excels at helping you and your financial advisors understand the legal ramifications of your retirement and estate plans

Contact us today to find out how we can help you achieve your retirement goals in your golden years. 

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