Richard Bucket has just been offered early retirement. His wife, Hyacinth, is ec

Question

Richard Bucket has just been offered early retirement. His wife, Hyacinth, is ecstatic. But this, of course, changes their original retirement plans. The Buckets (be careful to remember that Hyacinth pronounces it "Bouquet!") have come to meet with you, their financial planner, to review their retirement goals and plans.

Richard presently earns $100,000 (after taxes) per year as a senior public servant, and Hyacinth does not work. They also have a son, Sheridan, who is in college, but is in no hurry to complete his degree. They pay $5,000 per year toward his education, and $500 per month in an allowance. Sheridan *should* graduate in two years, but that is uncertain. Their mortgage payment is $1000 per month, and they have 36 months left to pay it off. Their other living expenses (utilities, groceries, gas, eating out, etc.) come to about $2,750 in an average month. In addition, Hyancinth has a habit of putting on expensive candlelight suppers -- drives Richard crazy, but she's not about to stop any time soon. Hyacinth spends about $750 per month on candlelight suppers. Everything else goes into retirement savings, which is invested in a conservative bond fund expected to earn 4% annually over a long period of time.

Now that Richard is retiring, Hyacinth has big plans: in addition to maintaining their current lifestyle, Hyacinth would like to take a week-long cruise on the QE2 each year. (For the sake of this case, we'll just assume it's still in service.) Hyacinth figures that the cost of such a cruise is about $4,000 per trip; but Richard suspects that it is closer to $8,000 after factoring in food and other expenses.

Richard is currently 61 years old, and he expects his retirement to begin in exactly 12 months, on his 62nd birthday. Being the conservative planner that you are, you plan for him and Hyacinth to live to 100. (By the way, she's exactly the same age...how convenient.) Hyacinth has made it very clear that she want to leave an inheritance to support Sheridan. She would really like to leave a fund that provides $2,000 per month in terms of today's dollars, to be invested in a portfolio with an expected return of 6%, and the payments should grow with inflation in order to preserve Sheridan's purchasing power. Speaking of which, it is very important to Richard and Hyacinth that their purchasing power be preserved in retirement as well.

Prices are generally expected to grow at a 3% rate annually for the rest of eternity. Assume that the Buckets' fall in the 24% tax bracket during retirement.

Richard and Hyacinth currently have $1M in retirement savings, and $10,000 in bank savings earning basically 0% interest. Other than their mortgage, they do not have any debt.

How much do the Buckets ("Bouquets") need on the day they retire based on their goals and these financial assumptions? Do they currently have enough? If not, how much do they need to save each month for the next 12 months until Richard retires? Is this amount feasible? Based on all this, what recommendations would you make to Richard and Hyacinth?

Explanation / Answer

The Amount Buckets ("Bouquets") need on the day they retire based on their goals and these financial assumptions (considering a growth of 4% and inflation of 3%) is USD 959,259.16, They have enough savings that will serve for their living till 100 years along with creating an inheritance fund for their son. The amount with them is feasible and they can live peacefully for next 100 years continuing same lifestyle.

Richard Bucket is about to retire at 62 years and expected to live till 100 years along with his wife Hyacinth. So, the total duration for which the retirement fund should serve is 38 years (100-62).
Fixed yearly expenses for next 38 years are as follows:
Monthly living expenses (utilities, groceries, gas, eating out, etc.) = 2750
Annual living expenses = 12 x 2750 = 33000
Monthly expenses on candlelight suppers = 750
Annual expenses on candlelight suppers = 12 x 750 = 9000
Annual expenses on long cruise = 8000
Total Annual expenses = 33000 + 9000 + 8000 = 50000
Considering inflation rate of 3%, the future value of annual expense of 50000 for the next 38 years is = 3,457,972.46
The amount that provides $2,000 per month (24000 Annually) in terms of today's dollars, to be invested in a portfolio with an expected return of 6%, and that grows with inflation (considering inflation of 3%) is
= 24000/(0.06-0.03)
= 24000/(0.03)
= 800,000
The future value of the amount that will serve Richard’s expenditure for 38 years along with creating an inheritance property considering an inflation of 3% is
= 3457972.46 + 800000 = 4,257,972.46

The Amount Buckets ("Bouquets") need on the day they retire based on their goals and these financial assumptions (considering a growth of 4% and inflation of 3%) is USD 959,259.16

The future value of retirement fund of 1M with a growth rate of 4% for 38 years is = 4,438,813.45

Future value of retirement funds value is greater than future value of expenses indicating that the amount is feasible considering all the recommendations.

Total earnings in his last year of service is = 100,000
Total expenses in his last year of service including his son’s education, allowances and mortgage is
= 33000 + 9000 + 5000 + 6000 + 12000
= 65000
Total savings in his last year of service = 100000 – 65000
= 35000
Remaining mortgage expense = 12000 x 2 = 24000
Considering his son completes his education in 2 years, the expenditure for next year is = 5000 + 6000 = 11000
Total Amount that serves for next two years mortgage and his son’s next year expenditure is = 24000 + 11000 = 35000
The total savings of his last year service serve’s next two years mortgage and his son’s next year expenditure. Still he has USD 10,000 in his savings bank account.

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