How much money do you need to retire comfortably?
How much money do you need to retire comfortably?
Most people understand how important it is to develop a plan for retirement, but I find that many don’t understand how to begin the process. Often when I ask the question “how much money do you need in retirement?” the first response I hear is “as much as possible”. Wouldn’t that be nice for all of us if it were that easy! The reality is that this isn’t an easy question to answer, because everyone has different income needs, and your family should have a strong understanding of what your retirement lifestyle is going to look like. One of the primary goals of retirement planning is to keep your standard of living once you’re out of the workforce, but for many people that is a difficult standard to achieve.
The average person is going to need somewhere between 60-80% of their current income to maintain their standard of living during retirement. Why is the estimate for retirement lower than current income? This is for a variety of reasons, but primarily it’s because during retirement people aren’t paying social security, payroll taxes, and (hopefully!) don’t have a mortgage payment. Most financial planners work with their clients to develop a plan that completely pays off their house prior to retirement, so that their income requirements can be reduced to lower than their current income. If you’re a retiree with a rent or mortgage payment your estimate will generally be closer to 80%.
What are common retirement expenses?
Obviously every family has a different set of needs and wants to run their household, but below is a list of common expenses. It’s important to really itemize and think extensively about all of the expenses you’re likely to need on a regular basis. Additionally, you should come up with a plan for how much you’re willing to spend on recreation and travel, and discuss with your financial planner if those goals are feasible.
-Housing and property upkeep, property taxes
-Insurance: medical, dental, long-term care
-Taxes: federal and state taxes, capital gains tax
-529 contributions
-Recreation: travel, hobbies, dining out and leisure
-Utilities: gas, electric, internet, tv
-Gifts, charitable, other miscellaneous expenses
One of the difficult questions people nearing retirement must make is “can I maintain my current standard of living?” Or alternatively “should I maintain my current standard of living?” Many people have difficulty switching to a fixed income because during their working years, it’s much easier to find additional income, splurge on a large expense, or modify your budget month to month. The consequences can be much dire if you decide to “borrow from your future self” in your 60’s by prematurely taking contributions from your IRA. What if you live to be 96? In that case, there are very real consequences to those actions, and considerably less time to make up the shortfall.
What are factors are important to consider when calculating your income needs?
The most important (and obvious) decision is deciding when you’ll retire. Retiring at 66 with full social security benefits, a healthy pension, and an untouched IRA is much different than retiring at 50 with most of your wealth in real estate and brokerage accounts. The tax considerations are extremely important, and if you’re retiring early you need to have a plan to “bridge the gap” between your retirement age and when your benefits kick in. You won’t be able to withdraw your traditional IRA or 401k contributions until 59.5 without a 10% penalty. Full social security benefits don’t trigger until 66 (I tend to not advocate for early social security benefits at 62, but it depends on the situation). So if you retire at 55, there is going to be a multi-year gap that will need to be funded before taking advantage of some of your other income streams. Taxable accounts should almost always be drawn down first, so it makes sense to have a brokerage account that acts as a bridge between early retirement and full retirement age. Additionally, rental income could be a great source of funds to bridge the early retirement gap. Either way, these are complicated issues that should be worked out with your financial planner.
Once you’ve settled on a retirement age and your income needs, you need to assess if you’re prepared to meet them. This means sitting down with your financial planner and estimating your social security benefits, 401k/IRA distributions, rental income, and how much confidence you have that these investments will grow and produce income during your retirement. If you plan to work during retirement, that also needs to be accounted for when coming up with a basic plan.
The final consideration is your life expectancy. Many surveys have shown that outliving your retirement savings is a huge problem in the United States, which is only getting worse as time goes on. Men on average could outlive their personal savings by 8 years, and women by 11 years. Your financial planner will work with you estimate your life expectancy based on government statistics, life insurance tables, gender, family history, and overall health. The best option is always to produce an estimate, as there is no way to predict exactly how long you’ll actually live. It’s always best to prepare for a longer than expected life expectancy.