Retirement: How Much is Enough?

The topic of how much money you need to retire is of great interest to me - and, presumably, many of you. Can you retire with a million dollars in the proverbial bank? More? Less? As with many things, the answer is usually “it depends.”

A popular approach to estimating how much you need to retire is to estimate your annual post-retirement living expenses and then multiply by 25. That's the amount of money you'd need to have socked away if you were willing to assume a 4% “safe withdrawal rate” (SWR).

In other words, if you need $40k/year, you'll need an investment portfolio of roughly $1M. And if you need $100k/year, you'll need a $2.5M nest egg. Simple enough, assuming that your portfolio will actually support 4% withdrawals without getting depleted early, and that you've accurately estimated your needs.

According to a recent study by benefits consulting firm Aon Hewitt, an alternative way of expressing your retirement needs is as a multiple of your final working salary.

Based on their results, an average worker retiring at age 65 needs to have eleven times their final salary stashed away (in addition to Social Security benefits) to be able to maintain their current standard of living. This analysis takes into account both inflation and anticipated post-retirement medical expenses.

If 11x your final salary is too steep, you can reduce the required amount to 9.4x by delaying retirement to age 67. Or, if you'd like to accelerate your retirement to age 63, you'll need 13.5x your final salary. This is considerably less than the 25x rule of thumb based on the 4% SWR mentioned above.

Interesting, but also flawed. The reason I say this is that you can't reasonably expect to translate someone's salary into a required nest egg without knowing more about how they spend it. Consider the following…

Bob and Mike both spend identical amounts to support their lifestyle - let's say $75k/year. But when you dig deeper you learn that Bob is living paycheck-to-paycheck on an annual salary of $75k whereas make is making bank at $150k/year and living well below his means.

Using a whatever-number-you-choose-times-salary rule, Mike's retirement needs would appear to be twice those of Bob, but clearly that's not the case. They both spend the same to support their lifestyles so, assuming that they want to continue living at that standard, they'll both have similar needs regardless of how big their current paychecks are.

Anyhoo… Ignoring that (major) flaw in Aon Hewitt's reasoning… How many people are actually on track to save this much? According to survey results, the typical “full-career” employee is on track to save 8.8x their final pay. That's a bit better than a couple of year ago, but still well short of 11x - and even further short of the old school 25x rule of thumb.

What about you? Have you done the math and set a specific numeric goal for your portfolio? If so, are you on track for a successful retirement? If not, what are you waiting for?

Wherever you've set the number, if you're not on track to make it there, there are some things you can do. The simplest approach is to scale back your standard of living, which has a dual benefit. By making do with less you can save more now and you'll need less later.

The original article can be found at Retirement: How Much is Enough?