“I’d like to retire in 10 years”, Jack said as he sipped his coffee. “How much do you think I’ll need?”
“It depends” I responded.
“Well, I read that people these days need at least a million or two to retire comfortably. Is that right?” Asked Jack as he set his coffee on the desk and leaned forward nervously.
“Not necessarily.” I responded. Jack sat back and sipped his coffee again. “You know, it really depends on a lot of variables Jack.”
“Well, for example, what do you plan on doing in retirement? Do you want to travel the world, play golf every day and buy a lake house?” I asked.
“I would like to play golf a few times a week and take a nice vacation once or twice a year. Other than that I live a pretty simple life.”
“OK, that’s a good start, tell me a little more. Do you owe anything on your mortgage or have any other liabilities?” I asked.
“Yes. I still owe on my mortgage and I have a home equity loan that I took out to help pay for the kids college tuition” Jack responded.
“We also have some credit card debt, probably about average for most people right?” Jack asked looking for some reassurance.
“Yeah, a lot of people have those things, but that will have an impact on you. Have you saved anything for retirement or will you be getting a pension from work?” I asked.
“Yes, I have a 401k I’ve been saving into for quite a few years and a couple of small Roth IRAs. Plus I will get a pension from work.” Jack replied. “But don’t I need 70 or 80 percent of my income in order to retire? I’m not sure my pension and social security will be enough”
“There are no hard and fast rules Jack” I answered. “Every situation is different.”
Although the above conversation is fictional, it represents a fairly typical dialogue that I have on a regular basis. Most people want to know a set dollar amount saved or percentage of income needed for retirement.
Unfortunately, it’s just not that simple. Here are some things to consider when determining how much you’ll need for retirement.
Income & Assets
Take stock of your income. Will you be receiving Social Security or a pension? Will you be working after retirement at a part-time gig, doing consulting work or turning your hobby into a business in retirement?
Have you saved into your 401k or built up other assets that can be used for retirement. According to a recent study by AARP, a safe withdrawal rate (or percentage you can safely withdraw from your principal without running out) is four percent.
Most people don’t pull out a steady percentage, but typically will do an “as needed” approach. According to the study, If you have $500,000 saved up, you can safely withdraw $20,000 annually and not tap the principal.
Expenses & Liabilities
Income and assets are very important, but to me these are the bigger items to look at. Take inventory of your expenses and liabilities. Will you need to buy your own health insurance or will you protect against a possible need for assisted living or a chronic illness?
Do you plan on traveling the U.S., buying that golf membership or spending money on a vacation home? These things will obviously dictate how much income you need?
Do you still owe on your mortgage and credit cards, or are you debt free? If you have no debt and a fairly simple lifestyle you will be able to retire on much less than if you want to travel the world and you already have all kinds of liabilities.
Short Answer and Simple Calculation
The short answer to the question, “How much money do I need to retire?” is “It depends”. Because every person and situation is different there are just no hard and fast rules to help determine what’s appropriate.
The simplest way to calculate how much you need is to add up all your sources of income and subtract out your planned expenses in retirement. If there is a shortage, you will need your savings to supplement.
If the amount needed is greater than four percent, then you probably need to save more or push back your retirement date. If that amount is less than four percent then you have done a good job of minimizing expenses and maximizing your income and assets and your retirement picture looks much better.
Consider these general guidelines as a starting point. Every situation is different and unique. If you want to delve more in depth into this question of how much is needed, there are many great retirement calculators on the web that will also take inflation and your rates of return on your savings into consideration.
Save more, spend less, get rid of debt and live a fairly simple lifestyle and you will be headed down the right path.