Throughout our working years, it’s only natural that we start envisioning what retirement life will look like. Whether you plan to spend time traveling, being present with your family, or volunteering, retirement can be a stage of life when you have more free time to explore your interests and hobbies more fully.
But while you ponder all the amazing things you want to do in retirement, it’s important to also think about financial logistics. Doing the work now to figure out how much money you’ll need to retire down the road can help you make an accurate savings plan so that you can truly achieve that dream retirement lifestyle!
While many workers believe they’ll need $1.8M to retire, according to a Charles Schwab study, it’s not so easy to put a one-size-fits-all price tag on retirement. That’s because everyone’s life is different. Costs of living vary widely across the country. How much money you need to retire comfortably will inevitably be different than your friends and neighbors.
There are so many variables that affect how much money you will need to retire. People choose to leave work at different ages, and some even continue to work part-time during their retirement years. Not to mention that many folks have different expectations when it comes to their desired lifestyle in those golden decades. Further complicating things, we don’t know how long those retirement funds will need to last, since none of us know exactly how long we will live.
So, how can you put together a retirement savings plan given all these moving parts? 🤔 In this post we’re going to cover the 3 top strategies for figuring out how much money you’ll need to retire.
Things to Consider When Planning For Retirement
First, let’s look at some of the factors that can greatly affect your retirement finances. Thinking about these options will help you create a more custom retirement goal suited to you, vs. just picking numbers out of thin air.
Desired Lifestyle
Do you hope to fly to an all inclusive resort every other month in retirement? Or will you be content living a more modest lifestyle, enjoying time with family and partaking in frugal hobbies? Spend some time thinking about the ways in which you want to spend your time in retirement. Then try to create a realistic annual budget for your post retirement years. How much you’ll need to save up for retirement depends largely on how large you plan to live.
When do you plan to retire?
While the age at which we retire is not always 100% within our control, it’s important to think about when you want to retire. If you’re doing hard manual labor every day, working till age 85 likely sounds awful. But finding a happy medium might help. Planning to work later means that your money won’t need to stretch as far. If you plan to retire early, that money will need to last for many additional years and you’ll have less time to save up. That will require a much higher savings rate!
Do You Plan to Work In Retirement?
Many folks choose to continue working into retirement, supplementing their monthly income. But it’s not just about the money… Retirees find fulfillment in continuing with side hustles, completing passion projects, or working a lower paying job that they’re more interested in. Any form of income you can bring in during retirement will help to stretch your retirement nest egg further. Meaning, you’ll need to save less money to retire comfortably. If you’re ok working a flexible part-time gig that can relieve a lot of financial pressure!
Healthcare costs
When calculating how much money you need to retire, it’s important to take healthcare costs into consideration. According to a 2022 Fidelity report, retired couples can expect to spend up to $315,000 on healthcare costs in retirement. Remember, that’s the average amount. This number could vary greatly depending on your individual health situation. S be sure to think about how much money you should set aside annually for medical expenses with that in mind.
Social Security
It’s also necessary to factor in the role that social security may play in your retirement planning. If you have contributed to social security for a minimum of 10 years through payroll deductions, you will be eligible for monthly social security payments in retirement.
However, social security will likely not meet all of your retirement needs. In fact, social security will typically only cover about 40% of pre-retirement earnings. This is because it was never designed to meet the entirety of a person’s retirement income needs. Especially not in a world where we, on average, live much longer than we did when this program was conceived. Instead, social security can help to supplement your retirement savings, along with a pension if you have one. You can easily estimate your social security payments using this calculator from SSA.gov.
While many folks will receive social security benefits, if you’re many years away from retirement, remember that the status of social security could change. With funds on track to “run out,” by 2033, it is likely that social security could see some serious changes or reforms over the coming years.
While it’s more than likely you will receive some kind of social security by the time you retire, even if you are only just starting out in your career, it’s possible that it could look very different. So, if retirement is far off, we encourage you to think of it more like icing on top of the cake. It’s a good idea to challenge yourself to reach those lofty retirement goals without it.
Where You Want to Live
Your retirement dollars can stretch further in certain places, and be worth less in others. That’s because the cost of retirement can be drastically different depending on which state, or even which country you decide to retire in!
This article from CNBC breaks down the “minimum cost” for both 25 and 30 year long retirements in each U.S. state, and the difference is enough to shock you. For example, they estimate that a 25 year retirement in California would cost around $1,432,425. Whereas the same length retirement in Florida requires only a $920,736 nest egg. That’s over a $500,000 difference!
How Much Money Do You Need To Retire?
Now that you’ve considered some of the factors that influence how much you need to retire, it’s time to bust out the calculator and come up with a retirement goal. There are a few different strategies you can use to estimate how much money you’ll need to retire. Here are the most popular ones we recommend you try out!
Strategy #1: Age-based milestones:
Some folks plan their retirements using age based milestones. Fidelity suggests that aiming to have 10x your annual income socked away by the age of 67 can allow you to maintain your pre-retirement lifestyle. This strategy assumes that a) you will take social security at 67 and obtain the full social security benefit, and b) by saving 10x your annual income, you’ll have built a nest egg large enough to replace 45% of your pre-retirement income.
Fidelity also outlines a simple method you can use to reach these milestones. If you begin saving for retirement at age 25, you’ll need to save 15% of your income every year, and invest at least half of it in stocks.
Along the way, you can check on your progress with the following age based milestones as you save.
This is a great method for retirement planning because it breaks down the larger goal of amassing 10x your annual salary into smaller, more manageable goals. Plus, you can easily break down those milestones further into monthly retirement contributions.
One of the downsides to using this calculation method is that it assumes you will work until age 67. And, that you’ll have a consistent salary and savings rate during your working years. If you plan on retiring early, and can’t draw social security for many years, you’ll need to figure out a better way to calculate how much money you need to retire. (We’ll cover that strategy next!)
Real Life Example:
Pam is 40, and makes around $80,000 each year. She decides to plan for retirement using the age based milestones strategy. So she aims to retire with around an $800,000 nest egg. While according to this method Pam should have $240,000 already saved up, she only has $200,000. She increases her savings rate to get back on track, then reverts back to saving 15% of her income for retirement after making quick progress. She checks back in with her retirement goals each year to make needed tweaks and adjustments.
Strategy #2: The 4% Rule
Very popular with the FIRE community (Financial Independence, Retire Early), this method of calculating how much money you need to retire just involves saving up 25 times your annual expenses. This means that using the 4% rule (aka The Trinity Study), you can withdraw 4% of your nest egg the first year (and every following year adjusted for inflation). Based on historical investment returns and studies, this strategy has a 95% chance of your money lasting for a 30 year retirement.
The 4% rule is awesome because it’s not age dependent and appeals to people at any stage of their journey. You can also easily make adjustments based on your predicted lifestyle. For example, if you anticipate your expenses to drop significantly in retirement (like if you’ll have paid off your home, or plan to downsize), you can calculate your predicted living expenses based on those numbers. Alternatively, if you want to maintain your current lifestyle, and add a few luxuries like vacations or hobby-based activities, you can use your current expenses and add to them those estimated additional costs.
The downsides of the 4% rule…
The 4% rule is not without its drawbacks and criticism. As previously mentioned, this method of retirement planning is based on past stock market returns (which should never be mistaken for future results!). Should you retire into a down market and experience poor returns for the first few years, you could be forced to draw down on your investments at a loss for an extended period of time, essentially depleting your portfolio.
Kristy Shen and Bryce Leung suggest a solution in their book, Quit Like A Millionaire. This could help you to avoid pitfalls within the 4% rule. Saving up a cash cushion in a high yield savings account, combined with a “yield shield” composed of dividends and bond interest, can help shelter you from poor market conditions. It’ll basically prevent you from locking in losses by needing to sell off investments in down years.
Real Life Example:
Chad and Liz are hoping to retire at the age of 65. Their home will be paid off by then, so they roughly estimate their annual expenses as follows:
Property taxes: $8,000
Home maintenance: $5,000
Transportation: $2,000
Groceries: $8,000
Travel: $5,000
Utilities: $2,400
Healthcare: $4,000
Misc./Entertainment: $8,000
Total annual expenses: $38,400
Chad and Liz multiply their annual expenses by 25, and aim to create a retirement nest egg of $960,000. This means that they can withdraw 4%, or $38,400 in their first year. And in subsequent years withdraw the same amount adjusted for inflation. They check in often with their retirement savings, and have a backup budget they can use if they need to reel in their spending during market downturns.
Strategy #3: The 80% Rule
Another common way to figure out how much money you need to retire is using the 80% rule. This rule suggests that retirees should plan on having income streams in retirement equal to at least 80% of their pre-retirement income each year. This can work well for many retirees, because when you retire, you no longer need to account for certain expenses like social security taxes, commuting and work related costs, and of course, saving for retirement. Duh!
The 80% rule is also great because it is super flexible. You just need all your income streams to add up to 80% of preretirement income. So the more income streams you have, the easier this can be to achieve. Income streams could include social security payments, investment interest, dividends and withdrawals, investment property income, and a pension if you have one. That 80% can include any earned money as well from part time work, or even rental properties.
Real life example:
Carol is planning for retirement using the 80% rule. Her salary before retirement was $100,000, so she’s looking to generate around $80,000 per year to live off when retired. Using the social security benefits calculator, she expects to receive $2,417 per month, or $29,004 per year. She has a nest egg of $700,000, of which she plans to withdraw 4% every year, bringing in another $28,000. And lastly, she rents out half of her multi-family home to another family for $1,917 per month, bringing in a total of $23,004 per year. Her total annual income in retirement will be $80,008, meeting her goal of reaching 80% of her pre-retirement income.
As a back-up plan, Carol also plans to do some casual dog-sitting jobs. This will bring in about $5,000 per year as a buffer in case there’s a dip in other income.
Tips for Success:
Planning for and achieving retirement is no small goal. Here are a few tips to help you stay on track when working towards retirement!
Track your progress
It can be difficult to consistently work towards a goal that is potentially decades into the future. That’s why it’s important to check in on your progress regularly to ensure that you’re on track according to your chosen planning method. Set aside some time at least once per year to assess your retirement goals. And make adjustments to your plans as needed. Here’s a full guide on how to track your net worth.
Break big goals down
While it can be helpful to have an overarching goal for retirement savings, breaking it down into monthly contributions can help you to actually reach that amount. For example, if you want to build a $1M nest egg for retirement over the next 40 years, set yourself up for success by setting up an automatic transfer of $350 each month to your retirement account of choice and invest it in highly diversified index funds. Assuming 8% returns, you’ll exceed your $1M goal in 40 years.
You may not need as much as you think…
While it may feel necessary to shoot for that multi-million dollar retirement fund, you could find that you need less money than you think to leave work. More than 7 in 10 investors believe they will need between $3-5 million to be able to comfortably retire. But these aspirations are often based on feelings rather than the cold hard facts.
The average 401lk balance of folks aged 65 and older is just over $250,000. This tells us that many folks are retiring with far less than how much money we as a society think we need to comfortably retire. While these folks may not be living lavishly, they are doing it! So remember that as you strive to reach the 80% rule, or to amass a nest egg that’s 10x your salary, even if you fall a little short you will probably be okay as long as you retain a can-do spirit. Don’t get discouraged, and keep working towards your goal to give yourself as comfortable a retirement as possible.
Cut Expenses
Cutting expenses NOW is a great way to supercharge your retirement savings. When you lower your spending, it has a twofold effect. First, it allows you to save and invest more of your money now, boosting your savings rate. Also, if you can keep your expenses lower, it means you don’t need to save as much for retirement because your cost of living is lower! That’s a double win.
Now, we’re not saying you need to give up your monthly date night, or quit those crossfit classes that give you tons of energy. Rather, we would encourage you to keep paying for the things you love, and pay less for the things you probably don’t even want to be paying for anyway.
For example, shopping around your insurance or negotiating your bills can save you hundreds of dollars every year with virtually no changes to your lifestyle. Cutting back on impulse buys that add nothing to your life (and eventually just end up taking up space at the back of your closet) can seriously add up over time too. Being mindful of your spending can help you to more easily reach your retirement goals, and even lead to less financial stress in the present.
Work in some wiggle room
When trying to figure out how much money you need to retire, we suggest adding some wiggle room to your retirement goal. This is because over time, your expenses and tastes could change.
While in your 20s you may be comfortable staying in hostels on your annual trip, you may grow to want more privacy later in life. Your healthcare expenses could increase if you develop a health condition. Or maybe you just want to be able to spend a bit more lavishly in retirement. Whatever the reason, it can be a good idea to bump up your estimated living expenses by a few thousand dollars each year to give yourself some extra cushion and flexibility.
Remember to enjoy life along the way
While prioritizing retirement savings is extremely important, it is also crucial that you work to build a life you love now. Reaching retirement will be much less satisfying if you have nothing to retire to. That’s why you need to ensure you are fostering your relationships and developing meaningful hobbies now, as opposed to after you retire.
The happiest retirees aren’t the ones with the fattest investment accounts, they’re the ones with the richest relationships and endeavors. It’s OK to spend money on vacations and experiences in your journey to retirement.
Automatically increase your contributions
An easy way to turn up your investing while barely feeling any difference to your bottom line is to turn on automatic contribution increases for your workplace retirement account. This means every year, you will automatically have 1-2% more of your salary deducted from each paycheck. These increases might feel small right now. But can add up to tens (or even hundreds) of thousands over the course of your retirement investing journey.
Plan some alternative retirement income sources
Investing isn’t the only way you can prepare for retirement. You can also plan to create some alternative income sources for after you leave work.
Many retirees choose to work part time because they find it fulfilling. But it can also help to seriously stretch your retirement nest egg. Others gain income from rental properties or by house hacking. And some may even earn royalties from things like book sales or music. The point is, retirement income can look different for everyone, and there is more than one way to successfully retire.
What if I’m behind on saving for retirement?
If you’re behind on saving for retirement, you’re not alone. In fact, more than half of Americans feel like they are not on track to retire comfortably. So what can you do to catch up?
If you you’re still relatively young:
If you have a few decades before retirement, the best thing to do is to really buckle down and start saving more. Work to increase your income and decrease your expenses to sock away more and more money into your retirement accounts. With a few years of hard work, you should be able to catch up and get back on track.
A good goal to start with can be to start maxing out your 401k if it’s available to you, especially if you have an employer match. Taking advantage of those “free” employer dollars can help to supercharge your retirement savings.
If you’re closer to retirement age:
If you’re approaching retirement age and are behind on retirement savings, you’ll need to take a more strategic approach to building and maximizing your retirement savings.
One thing you can do is to try and defer taking social security until you turn 70 years old. This will earn yourself the maximum benefit. It will likely mean working later into your life, but, trading a few more years working might be worth it. It’ll help your investments continue to grow and stretch the savings you do have into your later years.
Another option is to take advantage of catch-up contributions for any tax advantaged retirement accounts. Maximizing contributions and minimizing taxes today means you can save at a faster rate.
You could also take some strategic steps to lower your expenses. For example, you could consider retiring to a less expensive state or country. Or downsize your home to save more in the immediate future. Or, consider switching to a bare bones budget for a year to a few years to drastically cut down on spending in an effort to catch up.
Remember that every single dollar saved and invested will help you. If you’ve fallen behind, it’s easy to feel like saving for retirement is pointless. But it’s really important to not give up. The steps you take now will make a difference in your quality of life in retirement.
What if I start to run out of money during retirement?
Running out of money in retirement is a top money fear for many Americans, and rightfully so! With many folks behind on retirement savings, it is likely that some could run out of money in retirement. We don’t want that to be your fate.
The good news is that if you run out of money in retirement, you should still have some form of income from social security. However, as we discussed earlier, this isn’t really enough money to live a comfortable life. So you will likely have to rely on your family for additional support.
The best thing you can do to avoid running out of money in retirement is to be proactive. Check in with your retirement accounts on an annual basis. If you think you might be burning through your savings too quickly, take action now. Reducing your spending ASAP will avoid doing irreparable damage to your nest egg. And, if you’re in good enough health, it’s a smart idea to return to work part time. This will allow your cash to stretch further.
The Bottom Line:
With so many variables, it can be difficult to predict the exact amount of money you will need to retire. However, using one of these strategies (or all three!) can help you estimate a rough figure and make a stellar savings plan.
No matter which calculator method you use for retirement planning, remember to consistently check in with your finances and make sure you’re on track. You are in control of your financial future, and have the power to create a comfortable and fulfilling retirement.
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