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Avoid This #1 Retirement Mistake

Last update on: Dec 20 2018

What’s the biggest mistake in retirement plans? From what I see, it is failing fully to factor inflation into their planning. Retirement these days often lasts 20 years or more. To be safe, you should plan on living to age 90. Over that time inflation can make a safe, comfortable stream of income uncomfortably tight, even at today’s low inflation rates.

For example, after 10 years of only 2% inflation, you need almost $12,200 to buy what $10,000 used to buy (a 22% increase). After 15 years, you’ll need almost $13,500. If inflation doubles to 4%, you’ll need almost $15,000 after 10 years and $18,000 after 15 years. Here’s another way to look at it. A 1982 dollar today has the purchasing power of about 59 cents. A 1967 dollar equals about 19 cents today.

The inflation rate most cited is the CPI-U, the Consumer Price Index for Urban Consumers. It tracks prices of a basket of goods typically purchased by urban consumers, comprising about 87% of Americans.

The annual indexing of Social Security benefits and many union contracts is done using the CPI-W, a basket of goods purchased by those in hourly wage or clerical jobs, comprising about 32% of the country.

Each basket is determined by periodic surveys. The baskets most recently were changed in January1998 after surveys of 1993-1995 spending patterns.

There also is the Core Index, which is the CPI-U less food and energy prices. From month to month there can be significant differences between the Core and the regular CPI, because food and energy prices tend to be volatile. But over a year or longer, there isn’t much difference between the two.

But are any of these indexes a good planning tool for your retirement?

Your purchases almost certainly don’t follow the basket of goods in the survey. You likely spend more of your income on medical care, and perhaps on eating out, recreation, and other leisure activities. You also might spend a higher percentage on the necessities, such as food, fuel, housing, and travel. You likely spend less on education, clothing, and work-related expenses, among others.

Another potential problem is that the CPI is based on a survey of national prices. If you live in an area in which prices are rising faster, using the index could understate your needs.
Most retirement plans are computed by determining your planned annual expenses, then applying an estimate of the regular CPI-U to the total. That can be reasonably accurate if the national CPI-U is a good proxy for the inflation rate on your spending.

An ideal solution would be an inflation index for retirees. Each month since 1982 Labor has compiled CPI-E, a CPI for the elderly. It places greater weight on items such as prescriptions, medical care, and housing. The CPI-E generally is higher than either of the major inflation indexes, but not by a great amount. For example, from 1993-1997, the CPI-E increased 14.6%, while the CPI-U rose 13.7%, and the CPI-W was up 13.2%. For the last year, the CPI-E actually was less than the CPI-U.

The index is termed “experimental” by the department and “not as reliable” as the other indexes. It is not based on an actual survey of senior Americans, but on a re-weighting the spending categories of the other indexes. For these reasons it is not published with the other indexes. I obtained the data by calling the gentleman at the Department of Labor who compiles it.

Here are some better alternatives.

The ideal option is first to figure out your itemized monthly or annual budget. Then apply an inflation factor to each spending item. For example, you can inflate your food expenses by the actual food inflation of the last five or 10 years (or your estimate for the future). Or you can go a step further and separate “food eaten away from home” and “food eaten at home,” because restaurant costs have been rising faster than grocery store costs for several years.

You can get the national inflation factor for each item from the Department of Labor’s inflation report on the web sites or Or you can get the Monthly Labor Review, available by subscription from the Government Printing Office and in many libraries. The Bureau of Labor Statistics also has a fax-on-demand service that will fax the reports to you free. Call 202-606-6325 to have a directory of the available reports faxed to you.

If you don’t want to do that much work but also don’t want to use the national average because you live in a high cost or low cost area, you can use one of the regional price indexes that Labor issues. These are issued monthly, bimonthly, or semiannually, depending on the area. These indexes are available from the same sources as the regular CPI reports.

Another option is to start with an estimate of the national or regional CPI. Then, if you believe your spending mix has more of the items with fast-rising prices, add 0.5% to 1% to the regular CPI. You can revisit this calculation each year or so to see if it is a good planning tool.

The important step is to factor inflation into your retirement planning – and do not underestimate the length of your retirement. Otherwise, inflation even at today’s relatively low rates will eat into the purchasing power of your dollars and have you scratching for extra money as you get further into retirement.


February 2021:

Congress Comes for your Retirement Money

A devastating new law has just been enacted, with serious consequences for anyone holding an IRA, pension, or 401(k). Fortunately, there are still steps you can take to sidestep Congress, starting with this ONE SIMPLE MOVE.

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