How Much Money Do You Need for Retirement?

By Markets Fool.com

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How much will you need to live the quality of life you want to live in retirement? While there's no easy answer to that question, our contributors want to help you figure it out. Here are three pieces of advice that you can use to determine your "number."

Have a specific number in mind

Selena Maranjian: One number that's frequently trotted out as the sum that you should amass for retirement is a million dollars. That's not surprising, since it's a convenient, big, round number -- and it will serve many people well. It's the one I'll suggest here, too.

It's not the right sum for everyone, because each of us is in a different situation -- some with pensions, some with significant expected Social Security income, some with little expected income in retirement except for what we provide for ourselves. For best results, spend time figuring out what you need. But for a little context, let's see how well a million dollars might serve you, and how you might amass it.

Let's begin by assuming that you'll plan to withdraw 4% of your nest egg -- $40,000 in your first year of retirement, adjusting that sum for inflation in the years after that. That 4% is also not a one-size-fits-all number, but it offers a decent chance of making your money last for about 30 years. Think about that $40,000. Will it be sufficient? What other income will complement it, if any? The average Social Security retirement benefit was recently $1,348 per month, or about $16,000 per year.

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How can you amass $1 million, if that's the sum you're aiming for? Well, here's what annual investments of $10,000 can grow to:

Growing for

Growing at 8%

Growing at 10%

Growing at 12%

15 years

$293,243

$349,497

$417,533

20 years

$494,229

$630,025

$806,987

25 years

$789,544

$1.1 million

$1.5 million

30 years

$1.2 million

$1.8 million

$2.7 million

Think about how long you have until retirement and how much you can sock away each year. You might need to work a little longer or save and invest a little more or make some other adjustments to your plan. Be sure to consider dividend-paying stocks for your portfolio, too -- $400,000 in dividend payers that average a 4% yield will generate $16,000 in annual income for you, without your needing to sell any shares.

Aim for 25 times what you'll spend above what Social Security will cover

Chuck Saletta: The amount you'll need to fund your retirement has less to do with what you earned while working and more to do with what you plan to spend while you're retired. If you're like most Americans, you aren't expecting much if anything from a pension, but you do have a good shot of getting something from Social Security. To figure out how much you need to have socked away by the time you retire, simply subtract your expected annual Social Security benefit from your expected annual expenses, and multiply what's left by 25.

For instance, if you think you'll need $40,000 per year to cover your retirement expenses and are anticipating $15,000 per year from Social Security, your investments need to cover the $25,000 Social Security won't. 25 times that $25,000 is $625,000, which becomes the nest egg target you're aiming to hit by the time you retire. The reason for a target at that level is a concept in retirement planning circles known as the 4% rule.

The 4% rule is a back-tested guideline that indicates that if you start with a diversified portfolio and maintain that diversification throughout your retirement, you can:

  • Withdraw 4% of the starting balance of your portfolio in your first year of retirement,
  • Increase your withdrawals by the rate of inflation every year in your retirement, and
  • Have a very strong probability of not running out of money in your retirement.

To be covered by the 4% rule, your portfolio needs 25 times the money you're looking for it to cover each year. Since Social Security provides an inflation-adjusted income stream, your portfolio doesn't need to cover all your expenses, just the ones that Social Security won't.

Figure out your income needs

Matt Frankel: Selena and Chuck both make great points. It's good to have an actual numerical goal, and it's also important to make sure that your income needs are met. I'd like to focus on how to determine your income needs in retirement, in order to help you determine your "number."

As a general rule of thumb, you'll need about 80% of your pre-retirement income if you plan to maintain the same lifestyle. Some things tend to get a little cheaper in retirement -- you won't be commuting to work, for instance. And, you'll no longer need to save money for retirement if you're already there.

So, as a starting point, take your current income (or your anticipated income just before retirement) and multiply it by 0.8. Subtract your estimated Social Security income, which you can find on your Social Security statements by creating an account at www.ssa.gov. Then, as Chuck described, multiply by 25 to find your savings need.

Keep in mind that the 80% multiplier is just a general rule. Yours may be higher or lower depending on both your pre-retirement habits and your expected standard of living after retirement. For example, if you've always been a thrifty person and saved half of your income, you won't even need close to 80% of your income after retirement.

Similarly, if you plan on living simply after retirement or getting a part-time job, you won't need 80%. On the other hand, if you plan on traveling frequently, buying a boat, or doing any other costly activities, you may want to plan on a little extra income. The point is that there is no one-size-fits-all retirement savings calculation, so start will the general rules and modify them accordingly.

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