Retirement Income Calculators - How Do They Work?

One uses a retirement income calculator to determine how much monthly income your retirement savings may provide you in your retirement. In most cases, when performing retirement planning, one will enter financial information into the retirement income calculator, like current annual income, assumption of percentage of future income required, a listing of other income sources like social security or pension or annuity income, the current value of one's retirement assets, and the number of years before retirement. Once the required information is entered, the retirement calculator will determine the expected income over the individuals life, assuming certain inflation and rates of return. The calculator will also determine if there is an expected shortfall. An expected shortfall will determine the additional amount of retirement savings required on an annual or monthly basis. If one has a positive amount or no shortfall, one can plan for a more comfortable or frivolous retirement, or one can expect to leave assets to one's heirs.

Not all retirement income calculators are the same. Some take into account many more factors, such as one's health and one's life expectancy. Some calculators are not as detailed. So how do you know which one to use or believe? Most every retirement income calculator will handle the most basic functions, so one can pick one and get started. Calculators with more functions can be used, but it may be a mistake to rely solely on a retirement income calculator for exact retirement planning information, because in reality, it is really just a starting estimate. The further one is away from their expected retirement date, the more potential for difference across the calculations.

So, one thing that I do is to break down the calculation and use it to estimate the income to satisfy a particular use for the retirement income. So for example, pick an expense area, like critical living expenses (shelter, heating/cooling, food and clothing). Rather than inputting all your info into the calculator, just focus on what's required for the expenses you want to satisfy. By doing this, you can experiment with the calculator and tweak various parameters and get a good feel for what the available income will be for that area. In this way, one can put effort or scrutiny into the areas that are most important. By building on a foundation of most important needs and then moving on to calculate less important or more comfort oriented areas.

Another item to consider when when using a retirement income calculator is to not assume total reliance on a single sum of capital for retirement. It can be beneficial to look at several income streams, with part time employment as one area that can be explored. By breaking down the income into several streams, one can match incomes to expenses and ensure that critical needs are met, regardless of the assumptions which can be difficult to make from many years out.

You can expect that the amount of money you have in your retirement nest egg at the time you retire, including the rate of return and the current and assumed inflation rate will give you an indication of expected income level. By adding in your retirement age, life expectancy and the total value of your estate into the retirement income calculator can give a good estimate of an annual income as well as how much of the estate will remain as a bequest to survivors.

It is these types of variable that are difficult to plug into a retirement income calculator, but allowances must be made for them. Calculating income conservatively and using aggressive numbers for expenses can also help to conservatively estimate a more accurate financial outlook.