Do you know how much you need to retire? That’s the million dollar question. There are so many general guidelines and calculations out there, so who’s right? I’ve read many of them and there isn’t a one-size-fits-all answer. I think most of the general guidelines are off by at least $2 million, at least from my perspective on personal lifestyle and travel desires. With that said, are you confident in how and when you are going to retire?
For the next 15 years, about 10,000 people will be retiring every day. In July 2015, Fidelity reported that the average 401(k) balance reached $91,300. That’s a far reach from the $1 million that many seem to believe will be sufficient or Fidelity’s savings rule of thumb to have 8x your ending salary.
I believe that most people run the risk of outliving their money. This article by CNN shows an example with the theory that $1 million is plenty for someone who is making $80,000 by the time he retires.
Here’s the problem that I find with the $1 million assumption:
- Given that the typical American has an average of $38,000 in debt (including credit card, student loans, and car payments) and spends $1.26 for every $1 earned, we are a society that doesn’t know how to live within our means. So if we outspend during our income generating years, I don’t see any changes when it comes time to draw down on our nest egg.
- Most of these calculations assume that your annual spending goes down in retirement years. However, given that most people end up increasing their lifestyle and standard of living when they get raises and bonuses, I just don’t buy this theory.
- Assuming the “4 percent rule” that you are withdrawing 4% of your nest egg, $1 million assumes you only need $40,000 to cover expenses in year one. That comes to approximately $3,333 a month, which I believe is on the low side given it doesn’t consider your healthcare costs, long-term care needs, or potential mortgage and car payments.
- Remember that you need to factor in inflation.
- These calculations assume your tax rates stay the same. I think it’s more likely that taxes will only increase over the next 25 years, especially given our nation’s debt and need to figure out how to fund Social Security beyond the baby boomer generation.
- Many of these calculations assume you are getting Social Security income, which some may argue is an unknown for those of us who are not in the baby boomer generation. (*Note – I do not factor in Social Security payments when I have my financial planner calculate our financial and retirement plan. I am not confident it will be around when I retire in 25+ years, and even if it is, I highly doubt it will be at the estimated amount. Therefore, I will treat it as splurge and extra pocket money if I am lucky enough to actually see any of it when I retire.)
- These general guidelines also do not factor in that many people are forced to retire sooner than they had expected, due to health reasons, layoff, and caring for family who need full-time support.
On the other hand, I actually believe this article by Forbes does a better job on outlining how to figure out how much you need to retire. If you assume that you spend $100,000 annually (which I think is a pretty good round number given most people spend what they earn and then some), you will need $2.5 million stashed away! If that number scares you, then keep reading.
So what does it take to become confident that you have enough money to support the lifestyle you are comfortable with?
First and foremost, you need to get your “house” in order. This means:
- Create and Use a Budget – Know how much you spend on a monthly and yearly basis, and have a plan for every dollar earned. This way, you can adjust as needed and save enough money to invest.
- Build an Emergency Fund – Start off with a $1,000 emergency fund if you don’t have one. Then build up to 3 – 6 months of expenses. This way, when there is an emergency, you are not tapping into your 401(k) and incurring penalties for these unexpected expenses. (*Note – Needing to pay for roof repair, home improvements, and new tires are not considered emergencies. These are predictable, known expenses that you should plan and budget for in a separate savings account.)
- Eliminate Debt – You need to pay off all credit card debts, student loans, car payments and eventually mortgage to have more money to invest for retirement. Paying interest on loans, even at 0.9% eats into your savings and investing potential. Do not go into retirement with outstanding debt.
Once you finish getting your house in order, here are five main variables that will affect how much you need to retire:
- Time – How many working years do you have until you plan to retire?
- Money – How much do you have saved?
- Return – What is your expected rate of return based on your investment portfolio? (*Note – Talk to an investment advisor for more information, especially if you don’t have a retirement account.)
- Habits & Obligations – What are your spending habits and lifestyle needs? Do you have to take care of aging parents or support an adult child who can’t seem to find the perfect job?
- Location – What city and state do you plan to retire in? Cost of living and property taxes can affect how long your money can last. (*Note – I knew a woman who had a paid off house in New York, but sold it and chose to retire in North Carolina because her Social Security income couldn’t cover her NY property taxes.)
- Determine what your retirement vision looks like.
- Discuss with your significant other and family your goals and make sure everyone is on the same page. (*Note – Do not inform your spouse via text message that you have already given notice and are retiring in less than 48 hours, when she thought you were working for another 18 months. Inviting her to your retirement party hosted by your company will not go over well. Some of you may laugh and can’t believe someone would actually do this, but I know a husband who recently did this to his wife.
- Calculate how much monthly income you need to fund your retirement vision.
- Determine how many years you plan to continue working.
- Calculate how much you have saved for retirement.
- Total your outstanding debt.
- Go to this tool to see how much you would need saved for retirement. (*Note – I found this retirement calculation more realistic than the 8x your salary rule.)
Contact us for a complimentary consultation if you are in debt, don’t know where to start in saving for retirement, and need help understanding how to make the cash flow work to fund your ideal retirement vision.