We all know we need to save for retirement. But with variables like life expectancy and cost of living, not to mention the current economic landscape, it can seem impossible to calculate just how much is enough for our golden years.
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But new guidelines from Fidelity Investments is looking to take the head-scratching out of retirement planning by laying a simple ground rule: save at least eight times your annual salary in order to ensure your basic income needs are met during retirement.
“We get questions from people all the time wanting to know, ‘Are we on track?’ and we wanted to simplify things,” says Jeanne Thompson, vice president of market insights at Fidelity Investments. “Your goals can be attained—you just need small, simple steps.”
To arrive at its savings guideline, Fidelity used a “hypothetical worker” who saves in a 401(k) beginning at age 25, works until age 67 and dies at age 92. In the equation, a 3% 401(k) employer match was assumed. Thompson stresses that the equation is a “recommended baseline” and that some people may need more than eight times their annual salary.
“We recommend that if you work for a company that offers a 401(k) with a match that you save there, because if you don’t take it, then you’re just leaving money on the table, and that’s a part of your annual compensation,” says Thompson.
Surprisingly, Fidelity reported that during the recession, the average savings rate in 401(k)s stayed constant at 8% nationwide. However, Thompson recommends—if possible-- putting 10% to 15% of your annual income into your 401(k).
“If you did stop saving, we recommend you get back into it as soon as possible,” she says. “There’s no time like the present. What we’ve found is that many people may plan on working into their 70s, but then they can’t due to health reasons or layoffs. Once people start to see their accounts growing, they realize the power of saving and become much more engaged.”
Fidelity recommends that in order to reach the eight times salary goal by age 67, workers should have saved around one times their salary at age 35, three times their salary at age 45, and five times their salary at age 55.
Ray Mignone, president of Ray Mignone and Associates and a certified financial planner in Little Neck, N.Y., says the eight time salary is a “respectable” goal, but that most workers will be comfortable saving closer to 10 times or even 15 times their annual salary to create a sufficient nest eggs.
“If you’re saving in a 401(k),that money is going to be taxed when you take it out,” says Mignone. “You have to be cognizant of the fact that one-third of that money is not yours. It’s Uncle Sam’s.”
Mignone stresses savings techniques will differ for everyone due to financial circumstances and opportunities. For example, retirees who will also receive income from Social Security or a pension can save less in their 401(k) than those with no other retirement vehicles.
“The reality is that most people don’t want to change their lifestyles, so they need to make sure that their assets during retirement are sufficient to keep them living the way they were during their working life,” says Mignone. “But other people want to live like squirrels and they do it with no problem.”
Mignone referenced several of his clients who are happy cutting down to one car, cutting out their cable and cell phone bills, and cooking at home every night. “They are happy. They spend $40,000 a year and they tell me that they’re able to do everything they want,” he says. “But I have other clients who live on $300,000 a year, and they say they need every penny. It all depends on your personal preference.”
Ken Kamen, president of financial planning agency Mercadien Asset Management, says the only way to precisely calculate necessary retirement income is to be able to predict your exact life expectancy.
“If someone can tell you how long you’re going to live, then you’d know if you’re going to need three, eight, or 10 times your salary. But that’s impossible. The real issue is lifestyle. If you want to kick back and stay at home all the time, six times your salary might be good. But in reality, if you’re healthy and active, you’re probably going to spend more money trying to keep yourself occupied.”
Kamen says that no matter your current salary level, it’s difficult for 40 year olds to make decisions for their 70 year old selves.
“If you don’t live too long and you don’t have extravagant interests, eight times your salary is a good number,” says Kamen. “But I think the point of the study is that no matter what the number is, it highlights that most people don’t have enough. The important thing is that people don’t see the number and say ‘Hell with it, there’s no way I can get there before retirement.’”
Kamen advises most retirees will need to save 15 times their annual salary in order to maintain their lifestyle, but points out that there’s a big difference between “maintain” and “sustain.”
“If a person is making $100,000 a year, they’d have to save 10 times their salary to get to $1 million,” he says. “If they withdrew their money at the recommended 4% withdrawal rate, they’d only be living on $40,000 a year—less than half of what they have now. That’s not maintaining. That’s sustaining.”