How much do I need to save for retirement?
The simple answer, 10 to 25 times your current annual salary! If you Google this question you will find countless mind boggling on-line calculators most of which require a PhD in economics to accurately complete. I think most of these on-line tools are designed to intimidate you into speaking to one of their “Financial Advisors” (Salespersons).
In my “Download Free” area you will find a link to a truly simple calculator I developed for finding “Your Number”. But I recommend you read the rest of this post so you better understand the logic behind the calculation.
To answer the question of “How much do I need to save for retirement?”, we must start with the question of how much income will I need in retirement?
Then by applying the 4% rule, we can answer the question of “How much do I need to save for retirement. Under the 4% rule, a properly diversified and managed retirement portfolio should provide steady, inflation protected income for 30+ years. The rule simply tells us to multiply the amount in our retirement account by 4%. This is the amount you can withdraw from your retirement account in your first year of retirement. In the second year of retirement you will give yourself a small raise based on the consumer price index (CPI). This will allow your annual retirement income to grow with inflation.
For example, if you have $100,000 saved by the time you retire you can withdraw $4,000 for living expenses in the 1st year of retirement ($100,000 x .04). In year 2, you learn that the CPI for the previous year was 1.5%. Multiply $4,000 x 1.015=$4,060. In year three if the CPI is 2%, multiply $4,060 x 1.02=$4,141 etc…
The following 3 scenarios will tie these 2 questions together and help you use my interactive calculator.
Scenario 1: You are in your 20’s or 30’s and currently earn $50k a year. You don’t believe social security will provide much, if anything, by the time you retire and you don’t plan on staying with one employer long enough to receive a traditional pension. (Note: Currently only 35% of employees are eligible for a traditional pension and this figure has been dropping consistently for more than a decade). To replace 100% of your current annual salary you will need to save $1,250,000 in today’s dollars ($50,000 divided by .04). Inflation and hopefully promotions will more than double this figure by the time you reach retirement. But your current savings goal is $1,250,000 or 25 times your current annual salary! Recalculating your retirement savings goal every couple of years will factor in your growing income stream and should help keep you motivated to save, save, save.
Scenario 2: You are 40 something. Also earning $50k per year, but banking on social security to provide $10k per year in retirement. You are on target to have your home mortgage paid off by the time you retire so you estimate you will only need 80% of your current annual salary to retire comfortably.
Multiply Income by 80% $50,000 x .8 = $40,000
Subtract Annual Social Security Income of: $10,000
Required Annual Income from Savings: $30,000
Divide $30,000 by .04 for a Retirement Savings Goal of: $750,000 or 15 times current salary.
A sobering figure, which will continue to grow with inflation and higher earnings. You should recalculate this figure annually to keep you focused on reaching your goal.
Scenario 3: Your 50+ and over the hill with an annual salary of $50k! You’ve locked in a traditional pension that will provide you with $15k per year and social security will kick in another $10k. Your mortgage is nearly paid off and the kids are finally on their own. You estimate that you will need an annual income of $20,000 from your retirement savings to retire comfortably.
Divide $20,000 by .04 for your Retirement Savings Goal of: $500,000 or 10 times current salary.
Time is running out. If you are still far from reaching your goal you may have to reconsider early retirement. When your house is paid off you may be able to increase your savings. Delaying social security withdrawals will increase your future benefit thus lowering the amount you will need from savings. It’s time to take a hard look at your financial future.
My “What’s Your Number” calculator is available to you on in my “Download Free” area. Simply enter your name and e-mail address in the blocks provided in the upper right hand frame of this screen to gain access. Your e-mail address will not be shared with anyone for any reason. It is simply my way of protecting my information from hackers.