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Calculating Retirement Needs
A staple in retirement planning is the search for “your number.” That is, how much money do you need to accumulate in savings and investment accounts so you can afford to stop working? Life expectancy is increasing, so the amount you have when you retire might have to last for decades.
To find the number, you can start with a target for cash flow in retirement. Then determine how much you can expect from all anticipated sources of income: Social Security, a pension, rental income from investment property, and so on. The gap will probably be filled from your financial resources.
Linda Morgan, age 52, hopes to retire at 65. Linda expects to need about $75,000 a year for a comfortable retirement, with approximately $25,000– $30,000 coming from Social Security. She will not receive a pension from any employer and has no other obvious source of retirement income. Therefore, Linda will need about $45,000–$50,000 a year from her savings and investment accounts.
Doing the math
How can Linda find “her number,” the amount of financial assets she’ll need to generate $45,000–$50,000 a year in retirement? One tactic is to go online, where she’ll find many retirement calculators to crunch the numbers. Social Security, for instance, has a “Quick Calculator” at ssa.gov/OACT/quickcalc/ to help you estimate future payouts from that source.
Many other websites offer more comprehensive retirement calculators. Frequently, they allow people to enter their personal information, then make various adjustments to future plans to see what methods might increase their chances for financial security after the paychecks stop.
Linda uses a retirement calculator provided by the AICPA at www.360financialliteracy.org/Calculators/Retirement-Planner. She enters the information from example 1 and other requested data into the calculator. In this hypothetical illustration, Linda is single, earning $100,000 a year, and saving 15% of her earnings for retirement. Her future expectations include salary increases (2% a year), investment returns (6%), inflation (3%), and living until age 95. Linda has $300,000 in current retirement savings.
The good news for Linda is that, with the inputs listed in example 2, her retirement savings will top $880,000 by the time she retires at age 65. The not- so-good news is that Linda’s retirement savings will run out at age 83 if all of those expectations are met.
Fortunately, online calculators allow you to modify the data you enter and view the projected results. Some options for Linda include the following:
- Increase her savings rate from 15% to 20%. That would extend her retirement savings to age 86.
- Decrease her desired retirement income from 75% to 70% of current income. Again, her retirement savings would last until age 86.
- Delay retirement from age 65 to 67. This would allow her savings to last until age 90 because Linda would have two more years of earnings, boosting her nest egg over $1 million and taking away two years of relying on her portfolio for support. (Annual Social Security payouts would also increase.) What if Linda were to do all of the above? Work until age 67, save 20% of her income, and live on 70% of her current earnings in retirement? Now the calculator shows Linda retiring with nearly $1.15 million, tapping her portfolio until age 95, and having nearly $475,000 of portfolio assets remaining.
With such calculators, there are countless modifications you can make to wind up with a satisfactory plan, at least on paper. In addition, you can go back to the calculator every year or two and update the data to see your current status, as well as make any indicated changes in your retirement plans. As you can see, retirement calculators provide a valuable service, enabling pre-retirees to make informed decisions about working, saving, and spending.
Nevertheless, these calculators may not be able to pinpoint your specific situation, including any plans to work part-time or tap home equity. Our office can go over retirement calculator results with you and suggest possible changes to enhance accuracy. We can also look at your plans in terms of pre- tax and after-tax cash flows, which may provide an even clearer picture of your retirement finances.