According to an article from CNBC, a global investment management firm surveyed investors and you know what they came up with?
An average retirement nest egg of $2.5 million! That’s how much they believe it will take to have the same quality of life they’re enjoying today.
As I found out first hand at a lunch outing with a friend, this sort of belief is all too common!
But what if it’s not at all true? What if you really sat down and actually figured out how much do I need to save for retirement and concluded …
… it could be much, much less!
Perhaps you’re already a lot closer than you think!
Here’s my lunch story …
You Think You Need How Much To Retire?
The conversation took a turn to our company’s 401(k) plan and how much we were each saving there. That’s when she made the comment:
“My husband and I probably won’t have enough to retire until we’re at least 70!”
(She’s only 45.)
That really confused me and caught my attention …
She had already told me she has DOUBLE what I have in my 401(k) account. Why did she think she’d have to save another 25 years?
So I asked her … why do you think that?
She replied it was because they were a long ways away from having a few million dollars in their bank accounts.
A few million?
I asked her why they believe they needed a few million and that’s where I discovered the disconnect …
She didn’t know.
“Don’t you need a few million dollars to retire?” she asked.
I asked her if she and her husband had ever really sat down and figured out what their needs truly are and she said “no”.
A few million was just what they both assumed they would need …
How to Figure Out How Much Money You Really Need for Retirement:
In the case of my friend, that part was no problem! As I mentioned, her 401(k) savings were already double of mine.
But she had neglected the other half of the equation … A very important part!
How much do they really need to save for retirement?
According to my calculations, their target was way, way too much.
How to Calculate This Yourself:
There are a million ways to figure out what your retirement nest egg goal should be.
But this one is by far the simplest one:
- Take your average monthly expenses.
- Multiply them by 12.
- Then multiply them again by 25.
Example: If my monthly expenses are approximately $5,000, then my retirement nest egg size should be:
$5,000 x 12 x 25 = $1,500,000
That’s it. Not too complicated, is it?
Now here’s a little bit of the logic behind what you just did.
Monthly expenses. It’s better to base your retirement needs off your expenses rather than your current income because your expenses can be a much more accurate basis.
If you’re happy with your quality of life now, then chances are you’ll probably have the same level of expenses during retirement. If you want them to be higher or lower, simply adjust.
Multiply by 12. This one is probably obvious – multiplying by 12 takes us from monthly expenses to yearly expenses.
Multiply by 25. The reason you multiply it again by 25 is because of something called the safe withdraw rate. A safe withdrawal rate is a commonly used figure in retirement planning that says you can pull out a certain amount of money “safely” each year for retirement with very extremely high confidence you won’t run out of savings.
According to the Trinity Study, the classically accepted rate is 4%.
The reciprocal of 4% equals 1/0.04 = 25.
Hence it’s a lot easier to tell people to multiply by 25 than to tell them to divide by 0.04.
Shaving 15 Years Off of Working:
The next day I asked her how much her and her husband thought they’d really need to have a “happy” retirement.
Based on the numbers she gave me, we quickly did some calculations in Excel and discovered they could actually afford to retire very comfortably by age 55 if they really wanted to!
She was floored!
By actually taking the time to figure this out, we had essentially erased 15 years of working and possible unnecessary retirement savings. That’s 15 extra years to do whatever they want!
That’s pretty incredible!
A Little Bit of Planning Goes a Long Ways:
As you can see, taking the time to sit down and put a plan on paper pales in comparison to the 5, 10, or even 15 years of NOT having to work that you might save!
So why don’t more people take the time to do this? This quick video series from Prudential shows some very interesting experiments as to why people put off retirement planning. Take a look:
Refining Your Retirement Plan:
Please remember that the equation above is simply the most basic of basic methods to approximate your target savings.
Once you’ve got the general idea, if you’d really like to see how much you need to save for retirement, use a tool like FIRECalc to get a more statistical analysis of how your goals will stack up.
Again, I can’t say it enough. It’s worth your time and planning! Just like my friend you might find out that you need a whole less than you thought and end up saving yourself many years of working that you don’t need to put yourself through.
Readers – How much do you believe you need to save for retirement to be happy? Are you basing it on the things we talked about here or something else?
Images courtesy of Frankeleon | Flickr, Pixabay, and MorgueFile.