It's not inflation or even market performance that presents the biggest risk to your retirement plan. It's unexpected medical expenses.
Indeed, health-care costs are often overlooked—or underestimated—by pre-retirees who are putting money away.
"As we age and live longer, our health deteriorates pretty heavily in the last five to seven years of life, and that's when we spend a ton of money," said Bob FitzSimmons, certified financial planner and president of Bob FitzSimmons Inc., a wealth management firm.
"I have quite a few clients who have burned through their capital in assisted-living facilities, spending $200,000 to $300,000. Generally, it's the adult children who have to come to the rescue.
According to the Employee Benefit Research Institute (EBRI), a 65-year-old couple with median prescription-drug expenses who retire this year will need $295,000 to enjoy a 75 percent chance of being able to pay all their remaining lifetime medical bills, and $360,000 to have a 90 percent chance.
Those figures factor in the premiums for Medigap and Medicare Part D outpatient drug benefits to supplement basic Medicare, along with out-of-pocket expenses for prescription drugs. They do not include the cost of nursing homes or long-term care insurance.
A 2013 study by Fidelity Investments, however, found that 48 percent of respondents, ages 55 to 65, believe they will need just $50,000 to pay for health-care costs in retirement.
Many assume that Medicare, the federal health-insurance program for those 65 and older, will cover the rest. Not so, financial experts say.
According to EBRI, Medicare currently covers only 62 percent of the expenses associated with health-care services. And seniors can expect to pay a greater share of their costs, as Medicare limits coverage and employment-based retiree health programs disappear.
"There's a huge gap between what people are planning for and what they will actually need to pay out of pocket," said Laura Bos, vice president of financial security, education and outreach at AARP. "It can be quite the sticker shock."
The best way to ensure that future health-care costs don't consume your savings is to determine within a reasonable degree of accuracy how much you may need, financial advisors say.
That figure fluctuates, based on your current health, lifestyle and family history. It also varies depending on who's crunching the numbers.
Fidelity Investments, for example, estimates a 65-year-old couple retiring this year will need roughly $220,000 to cover medical expenses, not including long-term care insurance throughout retirement. This is slightly less than EBRI projects.
"Start with an estimate for the national average and then take a look at your family history," said Donald Roy, a certified financial planner with New England Wealth Advisors. "Maybe your mom ended up being diabetic late in life, or your dad has a history of heart problems. Some people are more exposed to health risks than others."
Financial advisors frequently have access to tools that provide a health-adjusted life expectancy. But you can estimate that number on your own using the age-based life expectancy calculator from the Social Security Administration, adjusting the result to account for personal health history.
Invest for growth:
You should also earmark a separate account for retirement savings and invest those dollars for growth, FitzSimmons said.
"That can be difficult for retirees who worry that they may not have the time horizon to ride out a crisis like we saw in 2008," he said. "They won't let themselves take on risk, but that's your best protection against rising costs."
Unless your savings are sufficient to cover projected health-care costs, FitzSimmons said, the bigger risk is being too conservative with your portfolio.
Indeed, PricewaterhouseCoopers Health Research Institute reports the health-care cost inflation rate is projected to be 6.5 percent in 2014, down from 7.5 percent this year.
Thus, the traditional safe-haven investments favored by retirees, such as money market funds and Treasurys, which currently yield less than 4 percent, would fail to keep up with health-care inflation. That's a guaranteed loss of purchasing power.