Common Cents: Four ratios to help guide clients to financial stability

"Measure twice, cut once" is the old carpenter's proverb. But long before the carpenter cuts, an architect measures and designs. Before a contractor builds a home, an architect spends many hours conceiving, designing, and creating blueprints.

What does this have to do with retirement planning? Plenty.

Retirement doesn't happen by accident. Future retirees should be aware of how much they are putting aside, how much they will receive in Social Security, and, most importantly, how much they will spend in retirement. Once that is decided, the blueprint has begun.

If you want to know how solid your financial picture is, you will need a few tools for measuring. Here are four ratios to help guide you to financial stability.

The mortgage or rent payment in retirement should be 10% or less of the overall budget. Some people think it is unwise to pay off the mortgage. That is fine, but a person should not retire while burdened with a huge mortgage. The 10% rule allows for significant bear markets. There should be some breathing room.

Banks usually allow a mortgage payment of well over 10% of income. Still, in retirement, you should play it safe.

The second retirement ratio is broader. Food, housing, utilities and health care should be 50% or less of the budget. That ratio allows for some breathing room and inevitable inflation. The costs of housing, food, utilities and health care cover the bare necessities. All other things can be sacrificed if needed.

The third ratio guides the amount one can withdraw from retirement accounts. This number can change with life expectancy, market performance and goals. Many studies show that success is more likely when 5% or less is the withdrawal rate. Taking out more than 5% does not guarantee doom, but avoiding it is a worthy goal.

The amount a retiree can pull from a retirement nest egg is hotly debated in the retirement industry. I admit a person who retires before age 62 should draw less than 5%.

The final measurement is a simple debt-to-equity ratio. Your debt-to-equity ratio should be no less than 2 to 1. If you enter retirement with $100,000 in debt, you should have a net worth of at least $200,000.

A solid debt-to-equity ratio is an excellent sign of how well you can handle financial setbacks. All types of surprises will arise during retirement, and you need to be prepared.

These ratios exist only as guides and are not the final say for a successful retirement. Measure your budget and assets to see how well you align with these ratios. If you fall short, don't panic; make adjustments and goals to improve.