Get With The Plan: September 20, 2009

92009Leah has made lots of sacrifices for quite some time. The 52-year-old divorced mom of two has supported her kids mostly on her own, and even paid for many of their college costs. But now, after living for so long with her children as her first priority, Leah wants to see what she can do for herself.

“I live paycheck to paycheck,” the Union County woman says. “Now, I’m thinking of retirement and possibly buying a townhouse or condo. Would I even qualify for a mortgage?”

Leah, whose name has been changed, has saved $3,000 in a 401(k), $165 in a brokerage account, $368 in a money market account, $6,190 in savings and $2,600 in checking. As a state employee, she will receive a pension based on years of service, estimated to be about $60,000 at age 62.

The Star-Ledger asked Michael Pirrello, a certified financial planner with Mill Ridge Wealth Management in Chester, to help Leah look to the future.

“Now the time has come to shift her focus from others to herself, setting herself up for a well-deserved comfortable and enjoyable retirement,” Pirrello says.

Pirrello focused on Leah’s three main financial goals: a home purchase, prioritizing savings and investments and preparing for a secure retirement.

First, the home. Leah has been a renter for years, and she still likes her apartment. But now that her children have moved out and the expense of supporting her kids has greatly diminished, she’s thinking of buying real estate with her extra cash flow, especially because real estate prices are so low.

“Leah does not currently have the approximate $20,000 that a home purchase in her budget range would require, and it will take her time to save those funds,” Pirrello says.

If she made a purchase, she’d also have to contend with closing costs for the transaction, plus the additional costs of home ownership, such as maintenance and repairs. Instead of making such a large financial commitment to a home right now, Pirrello says she has more important issues to contend with.

“Leah needs a laser-like focus on her retirement savings and flexibility in her financial life, not to be a slave to a mortgage payment and whims of the real estate market,” he says.

One big issue for Leah is her lack of emergency funds, Pirrello says. He says she should be praised for single-handedly raising her two children, supporting them both emotionally and financially. However, she spent most of what she earned and didn’t have extra for savings.

Pirrello says emergency funds are typically safe, short-term savings accounts that are maintained in order to support six months’ worth of living expenses due to an interruption in traditional income.

“Quite possibly never before in recent memory have emergency funds been so important,” he says.

Leah’s budget shows she may have between $300 and $400 in additional cash flow that could be dedicated to savings. She should establish a savings account and automatically transfer those funds each month in order to begin building that emergency account, with a ballpark goal balance of between $15,000 and $20,000.

Her biggest financial obstacle is saving for a comfortable retirement. The good news is that Leah has a solid pension from the State of New Jersey to count on. She plans to retire with 28 years of service at age 62, at which time she’ll be eligible for an annual pension worth 51 percent of the average of her highest three years of income, paid out as an annual pension benefit.

That’s about $60,000 per year, or an inflation-adjusted income of approximately $50,000 in today’s dollars, Pirrello says.

That is a good start, but it will not cover her full income needs in retirement, Pirrello says. Leah says she’s willing to work part-time in retirement, but there is no guarantee as to what that income will look like. As such, it’s essential she make a big effort to save more.

At the current pace of her savings, Pirrello says Leah runs a real risk of running short of funds for retirement when she is 80 years old.

He says the way around that shortfall is to increase her annual savings to 10 percent and delay her retirement for two years until she is 64. This will increase her savings and also increase her annual pension.

“Further, her willingness to work part-time initially in her retirement will allow her the flexibility to utilize additional retirement cash flow for other means and/or allow her to delay receipt of her Social Security benefits if logical to do so at the time,” Pirrello says.