It’s the most common question that we are posed as financial planners. If it were up to us and we were following our iThrive Planning Process, we build a financial plan to truly answer this question for you. With that said, what we will do today is outline the key financial factors that go into addressing this question:
1. When do you want to retire? This allows us to determine two key items. First, how long you will be making withdrawals from your portfolio? Assuming you live until age 95, there is a big difference between retiring at age 50 vs. 65. In one instance, we need enough savings to fund 45 years of life and in the other only 30. Second, how much will health care cost? If you retire prior to when you can enroll in Medicare (age 65), then you’ll need to ensure you have sufficient funds to cover the costs of private health insurance. This can be extremely costly and the reason many wait until at least age 65 to retire.
2. How much do you want to spend per year in retirement? There is a big difference between saving enough to fund a lifestyle that costs $80,000 per year vs. $300,000 per year. When you apply inflation rates of 2-3% on top of these numbers and look over the time horizon of what $300,000 costs today versus 30 years from now, the numbers can seem ridiculous. However, inflation is real and should definitely be taken into consideration when projecting out what your withdrawals will look like over your lifetime, so you know how much to save now. Whether it’s $80,000 or $300,0000, figure out what that number is for you to sustain the lifestyle that you want in retirement.
3. What other financial goals do you have? This is key, because you want to plan for whatever other withdrawals will be made from your portfolio now and through retirement. That’s ultimately more money that needs to be saved now and that will not go toward funding your basic living expenses and health care needs in retirement. It might be buying a second home, giving to charity, spending on travel/vacations, gifting money to children/grandchildren, or leaving a bequest at your passing. It’s very important to quantify these goals and to try to estimate the timing of when they’ll occur, so you can plan for those withdrawals and see how that might affect your retirement savings and timeline.
4. How are your assets currently allocated? A key factor in understanding how much you need to save for retirement and how long your investable assets will last you, is how your portfolio is allocated (meaning how much you hold in stocks, bonds, or cash). As we already stated, inflation is real. That’s why it’s important to always have a portion of your portfolio allocated towards stocks, because you need that growth so your assets can keep up with inflation. Many people assume you want to move to a very conservative portfolio (meaning allocated mostly towards bonds) in retirement, but that cuts into your purchasing power over the long-term. In fact, having a portfolio that’s too conservative in retirement will mean you need to save more or retire later.
While we’re just scratching the surface here, hopefully this gives you a view into why answering the question of “How much money do I need to retire?” isn’t all that simple. In our opinion, the best way to truly address this and everything outlined above is by working with a professional to build a financial plan.