How Inflation Affects Your Retirement Plans

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Andrew Perri, President & Founder

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Pinnacle Wealth Management
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With prices rising at a record rate , many retirees or people planning to retire soon may be increasingly worried about what sort of lifestyle they can afford.


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The good news is that the headline inflation number of 9.1% from the Bureau of Labor Statistics represents an average rise in consumer prices. Your own inflation rate may be different depending on what you buy and where you buy it.

“Inflation is represented as a single number, but in reality, it affects everyone differently depending on how they spend their money,” says Brian Walsh, Senior Manager of Financial Planning at SoFi in Grand Rapids, Michigan. “Generally, as you get older, you spend less on food, transportation, clothing and entertainment but spend more on healthcare, charitable contributions and services. Food, energy and transportation are significant drivers of inflation so that some retirees may be less affected by inflation compared to their working counterparts.”

The bad news, however, is that inflation still impacts you. It could be worse than average, depending on where you live. Furthermore, retirees often find themselves in a precarious position regarding inflation based on several factors.

“Regardless of whether retirees’ expenses are more or less affected by inflation than workers, higher expenses introduce additional risk to a retirement plan,” says Walsh. “First, expenses may rise at a faster rate than their fixed income. This creates the need to either reduce spending or withdraw more money from investments during a bear market. Second, the Fed’s response to high inflation has been to raise rates which may negatively impact the value of existing fixed income investments that are owned more often by retirees than workers. Third, high inflation and rising rates may create additional volatility in the stock market which affects retirees more since they are actively taking withdrawals from their investment accounts.”

If you’re retired, close to retirement or just thinking about retirement, no doubt inflation has you wondering about your plans. The questions below represent popular search engine requests. How similar are they to reflecting your own worries?

What does inflation mean to retirees?

Inflation affects everyone, but you can be especially vulnerable if you’re retired. Those who rely on the kind of income sources once popular among previous generations can find themselves most at risk.

“Inflation harms retirees as they generally live on a fixed income comprised of Social Security, pensions and withdrawals from their retirement portfolios,” says Michael Fischer, Director and Wealth Advisor for Round Table Wealth Management in Westfield, New Jersey. “Sustained inflation over a number of years can drastically reduce your purchasing power, especially without cost-of-living adjustments in pension payments or strong investment markets to buoy retirement accounts.”

How does inflation affect the way you plan for retirement?

Given the potential impact inflation can have, it’s essential to adjust the way you plan for retirement. This represents something new, as inflation has been relatively tame for more than a generation. Indeed, no one expected this current bout of inflation to be anything but transitory coming out of the pandemic. People are only now relearning how (and why) it needs to be incorporated into retirement planning.

“Inflation reduces your purchasing power over time,” says Rob Stevens, Retirement Income Specialist at TIAA in Charlotte, North Carolina. “Over the past 30 years, inflation has averaged around 2.5% annually. That means a 65-year-old retiree who needs ~$50,000 of income to cover today’s expenses would need to spend about $80,000 in 20 years to maintain their purchasing power. If inflation spikes sooner, though, retirees who want to maintain the same lifestyle would also need to spend more money sooner.”

What rate of inflation should you use when calculating how much you will need in retirement?

While it may seem that inflation was “unusually” low in recent years, the fact is these low levels are consistent with the long-term rate of inflation. Except for an extended period of high inflation from the 1970s through the 1990s, the “low” levels we’ve recently experienced were similar to our historical average.

“Inflation averages 3% annually over time, but the recent inflationary trends are at a 40-year high,” says Jody D’Agostini, a financial advisor at Equitable in Morristown, New Jersey.

Even this average, however, is not without its consequences.

“Inflation is like high blood pressure,” says Lou Cannataro, Founder & Partner of Cannataro Family Capital Partners in New York City. “It’s a problem, and many may not see its true effects until it is too late. You should have calculated how much you need each month to meet your expenses. The problem is your monthly spending will increase not because you are consuming or doing more, but because those goods or services simply cost more. If retirees have done their long-range planning correctly, they will have factored inflation into the calculation. However, high periods of inflation should bring the retiree back to reconsider current spending and what tactics need to be deployed (if any) to minimize the long-term effects on funding their goals.”

How will inflation affect my 401k or IRA?

If you haven’t retired, and possibly even if you have already retired, you may wonder what inflation will do to your retirement savings. It is this portfolio that retirees rely on. How it reacts to inflation can spell the difference between a comfortable retirement and getting a part-time job during retirement.

“Inflation most acutely impacts retirees through diminishing their purchasing power and thereby increasing lifestyle expenses funded through investment portfolio distributions,” says Matthew Ruffalo, Head of Investment Solutions at Clarfeld Citizens Private Wealth in Tarrytown, New York. “Inflation is one of the reasons why it’s important to invest in financial markets.”

And by “financial markets,” Ruffalo refers to investments beyond those you’d find at the neighborhood bank.

“Over longer periods of time, cash returns do not keep pace with inflation,” says Ruffalo. “Therefore, the real value of an all-cash asset base will decline. However, through building diversified investment portfolios that utilize asset classes with historical returns that outpace inflation, retirees can create asset bases that grow over time. Retirees can then rely upon these portfolios to maintain the real principal value of their assets and preserve requisite cash flow distributions to support increasing expenses over time.”

Does inflation hurt retirement?

Why is it important to make sure you don’t get too conservative in your retirement portfolio after you retire? That’s because you don’t want inflation to hurt retirement. The failure to grow your retirement assets beyond your retirement date is the number one reason inflation can surprise you.

“Inflation hinders your purchasing power as the cost of most everything you buy rises faster than the pace of your asset/retirement income growth,” says Wes Moss, Managing Partner and Chief Investment Strategist at Capital Investment Advisors in Atlanta. “For example, if inflation rises at 10% and your income streams only increase by 3% per year, then everything is 7% more expensive on a relative basis; hence, your purchasing power is 7% less. Said another way, your ability to maintain the same standard of living can be eroded in a significant way.”

How does inflation impact my retirement income needs?

The lack of investment growth is where inflation becomes a real problem for retirees. Traditionally, retirees have relied on fixed income instruments and/or plans to provide for their retirement income needs. Today, most retirees have a significant equity portfolio to go along with fixed income sources, be they bonds or Social Security. Without those equities, retirees could be at risk given the current inflationary environment.

“Consumer prices in June have increased more than 9% over the past 12 months,” says Ari Parker, Lead Medicare Advisor at Chapter in Phoenix. “These price hikes have impacted everyday living costs, including the prices of food, rent and even medical care. Retirees are especially vulnerable to inflation because many of them are on a fixed income. For some, these rising prices mean they have to dip into savings to pay for everyday items. Inflation has resulted in a higher cost of living for those on a limited income, especially for those who are not bringing in a steady income from an employer.”

How does inflation impact my retirement spending needs?

At the same time inflation influences your strategy when it comes to investments, it will likely also change the way you spend your money. It may not change the total amount you spend, but it may change what things you spend it on. This is something you’re probably seeing right now.

“At the pace that inflation is currently rising, it certainly will have an immediate impact on future expenses, for likely the next year,” says Ted Wozniak, U.S. Head of Asset Management at SEI in Oaks, Pennsylvania. “There is a chance it can cause an impact even further into the future. This, coupled with a bear market, will certainly drive decisions around future withdrawal rates for retirees.”

Will Social Security keep up with inflation?

Can you depend on Social Security to help? It certainly isn’t “fixed” in the usual sense as the government does attempt to increase it to reflect the current inflation rate. Sometimes, though, that doesn’t match the real rate of inflation.

“Social Security did have a 5.9% increase this year,” says D’Agostini, “but that has failed to keep pace with the 8-9% inflation we have been seeing.”

More so, Social Security has its own set of problems that will come to a head in the very near future. Inflation only makes these worse.

“For retirees that largely are on a fixed income, this can be especially concerning,” says Matthew Benson, Owner of Sonmore Financial in Phoenix. “Social Security does have a cost-of-living adjustment (COLA), which was 5.9% for 2022, but it is well known that the Social Security trust fund is underfunded. At its current rate, experts estimate they will have to reduce payments at some point in the next 10 to 15 years. There are several solutions to extend the life of the Social Security trust fund, one of which could be reducing or eliminating the COLA. The intention of Social Security payments is to replace about 40% of someone’s retirement income.”

How much do I need to retire with inflation?

This, then, is the bottom line. Unfortunately, this number was a mystery even before factoring in inflation. Actually, including this additional variable isn’t as hard as it seems. Any financial professional can demonstrate this for you if you’re less confident in those omnipresent “free” online retirement calculators. Don’t be surprised by the results.

“The cost of retirement often exceeds a retiree’s expectations,” says Christian Mills, Head of Finance Relations and Home Equity with Reverse Mortgage Funding, LLC in Denver. “It can be challenging for many people to transition from living on a salary to living on a fixed income, especially if they haven’t planned for certain significant expenses. Many of us were told that $1M in retirement funds is the magic number for a successful retirement. However, a recent study found that Americans will now need close to $2M to fund their retirement.”

Again, that’s only an average. And like the average rate of inflation, the average retirement target doesn’t help you. It all depends on where you plan to live and how you plan to live.

Just don’t forget to include inflation in your calculations.

By Chris Carosa, Senior Contributor

© 2022 Forbes Media LLC. All Rights Reserved

This Forbes article was legally licensed through AdvisorStream.

Andrew Perri profile photo

Andrew Perri, President & Founder

aperri@pinnaclewealthonline.com
Pinnacle Wealth Management
Andrew : 810-220-6322