Retirement planning is crucial but can also be complicated. Many people wonder what the magic number is to retire comfortably. The answer depends on your individual circumstances and goals. While there is no one-size-fits-all solution, there are some helpful guidelines to determine your magic retirement number.
How much annual income will you need in retirement?
A common rule of thumb is that you’ll need 70-80% of your pre-retirement income to maintain your lifestyle in retirement. This percentage accounts for expenses that may decrease like taxes and retirement savings contributions. To estimate your needed retirement income:
- Calculate your current gross annual household income
- Multiply that number by 70-80% to estimate your required annual retirement income
For example, if your current income is $100,000, in retirement you’ll likely need $70,000 – $80,000 per year (or $5,833 – $6,667 per month). This provides a rough estimate, but you’ll want to consider your specific situation as well.
Factors that influence required retirement income
- Your desired lifestyle – The more activities and travel you want to do, the higher your income need will be.
- Health care costs – These tend to rise later in retirement. Factor in premiums, co-pays, and dental/vision expenses.
- Long-term care – These costs can be enormous. Long-term care insurance is an option to pay for potential care.
- Life expectancy – The longer you’ll live in retirement, the more years of income you’ll need.
- Inflation – Your purchasing power declines over time. Factor in 2-3% annual inflation on expenses.
- Debt and housing – Ideally you’ll pay off debt and own your home before retiring.
- One-time costs – Be prepared for periodic large expenses like home repairs or vehicle replacement.
How much do you need in total retirement savings?
Once you estimate your annual retirement income need, determine how much total savings it will take to generate that income. The 4% safe withdrawal rule provides a good guideline. According to this rule, you can safely withdraw 4% of your total retirement savings each year to generate income.
To determine your target total savings amount, you can use this formula:
Total retirement savings needed = Annual retirement income needed / 4% withdrawal rate
For example, if you need $70,000 per year in retirement income, divide that by 4% to get target total savings of $1,750,000.
| Annual Retirement Income Needed | Total Retirement Savings Needed (at 4% withdrawal rate) |
|---|---|
| $50,000 | $1,250,000 |
| $60,000 | $1,500,000 |
| $70,000 | $1,750,000 |
| $80,000 | $2,000,000 |
| $90,000 | $2,250,000 |
| $100,000 | $2,500,000 |
This table shows total savings required at various annual retirement income levels using a 4% withdrawal rate. The 4% rule allows you to withdraw a steady inflation-adjusted income stream while preserving your nest egg over a 30+ year retirement.
Factors that impact total retirement savings needed
- Life expectancy – The longer your retirement, the more savings you need to generate income.
- Withdrawal rate – A lower rate than 4% provides more protection but requires higher savings.
- Retirement lifestyle – A more luxurious lifestyle requires higher total savings.
- Rate of return – Higher investment returns allow you to withdraw more income annually.
- Pension income – Steady pension payments reduce the amount you need to withdraw from savings.
- Social Security – This provides a consistent base of retirement income.
- Retirement age – Retiring earlier requires more years of income from savings.
How much should you save each year for retirement?
Now that you know your total target retirement savings amount, you can calculate how much to save each year to reach that goal. Assume you want to retire in 20 years at age 65. Here is how to estimate your annual retirement savings target:
- Calculate total retirement savings needed for your annual income goal
- Estimate your current total retirement savings
- Subtract your current savings from the total goal
- Divide this amount by the number of years until retirement
For example, if you need $2,000,000 total and currently have $200,000 saved, you have $1,800,000 left to save over 20 years. That equals $90,000 per year ($1,800,000 / 20 years).
This provides a baseline yearly savings target, which you can adjust based on your age-based saving needs and capabilities. Use the below table as a guide:
| Age | Recommended Retirement Savings Rate as a Percentage of Income |
|---|---|
| 25-35 | 20% or more |
| 35-45 | 20-25% |
| 45-55 | 15-20% |
| 55-65 | 10-15% |
These benchmarks help maximize your retirement contributions in earlier higher-earning years while accounting for other financial priorities that often arise in your 40s and 50s.
Tips to save enough each year
- Take full advantage of employer retirement plans, especially if they offer matching contributions.
- Aim to steadily increase your savings rate each year as you earn more.
- Automate transfers from your paycheck into investment accounts.
- Limit lifestyle inflation as your income rises.
- Consider retiring debt obligations early to free up more cash to invest.
- Learn to live below your means and minimize unnecessary expenditures.
- Determine savings goals for any bonuses or windfalls you receive.
- Utilize catch-up provisions that allow extra contributions after age 50.
How can you bridge an income gap if your savings fall short?
Despite your best efforts, your retirement savings still may not fully align with your income goals. Some options to bridge a savings shortfall include:
- Delay retirement a few additional years – This allows more time to save and reduces the number of retirement years you need to fund.
- Work part-time in retirement – Earned income reduces the amount you need to withdraw from savings each year.
- Downsize your home – This frees up equity that can be invested while reducing housing expenses.
- Relocate to a lower cost of living area – Some regions have much lower taxes and living costs.
- Clip coupons and budget diligently – Reducing spending helps lower the required retirement income.
- Annuitize a portion of retirement savings – Annuities can provide guaranteed lifetime income.
Consider multiple options and combinations that make sense for your situation. The key is to be proactive if it looks like your retirement savings will fall short of original projections.
Conclusion
Determining your retirement number requires assessing your income needs, total savings goal, annual savings target, and options to bridge a potential shortfall. This is a personalized calculation based on your specific circumstances. With prudent assumptions and proactive adjustments where needed, you can identify a retirement savings strategy designed to fund your desired lifestyle.
The key is starting early, automating regular monthly contributions, and optimizing your savings rate over time. By diligently building your nest egg throughout your working years, you can enter retirement with confidence in your financial plan.
