Knowing how long your retirement savings will last is a complicated, highly personal calculation. It’s based on how much you’ve saved, how you’ve chosen to invest your money, your Social Security benefit, whether you have other income streams — and more.
And even when you have all the information at your fingertips, it can be hard to make an accurate calculation, because life is fraught with unexpected events that can impact how much money we need and how long we’re going to live.
Taking those caveats into account, though, it’s still important to make an educated estimate of how much money you’re likely to accumulate by the time you retire, as well as how much you’re likely to spend.
What Factors Affect My Retirement Savings?
Here are some of the many variables that can come into play when deciding how long your retirement savings might last.
Retirement Plan Type
Whether it’s a defined-benefit plan like a pension, or a defined contribution plan like an employer-sponsored 401(k), 403(b), or 457, the kind of account you contribute to will likely have an impact on how much and what method you use to save for retirement.
With a pension plan, retirement income is usually based on an employee’s tenure with the company, how much was earned, and their age at the time of retirement. Pensions can be a reliable retirement savings option when available because they reward employees with a steady income, typically once per month.
One potential downside, however, is that pension plans can be terminated if a company is acquired, goes out of business, or decides to update or suspend its employee benefits offerings. Indeed, pension plans have been far less common compared with defined-contribution plans like 401(k)s and 403(b)s and the like.
With a 401(k) plan, participants can contribute either a percentage of or a predetermined amount from each paycheck. The money is deposited pre-tax, and the accountholder generally owes taxes when they withdraw the money in retirement.
In some cases, the funds employees contribute are matched by their employer up to a certain amount (e.g. the employer might contribute 50 cents for every dollar up to 6%).
Unlike a pension plan, the amount of retirement funds the participant saves is based on how much they personally contributed, whether they received an employer match, the rate of return on their investments, and how long they’ve had the plan.
IRA or Roth IRA
An Individual Retirement Account (or Arrangement), or IRA, is a retirement account that’s not sponsored by an employer. Individuals set up and fund their own IRAs.
There are no income limits for a traditional IRA, but contributions are capped at $6,500 per year ($7,500 if you’re 50 and up).
A Roth IRA, on the other hand, has limits on contributions based on filing status and income level.
Less Common Plans
Other types of retirement plans like Employee Stock Ownership Plans (ESOP) and Profit Sharing Plans are less common and have their own unique benefits, drawbacks, and details.
Social Security is a federally run program used to pay people aged 62 and older a continuing income. Social Security benefits are structured so that the longer you wait to claim your benefit check, the higher the amount will be.
Expected Rate of Return on Investments
If a person puts money into a defined-contribution plan or makes investments in stocks, bonds, real estate, or other assets, there are a number of return outcomes that could affect their retirement savings.
An investment’s performance is about more than just appreciation over time. Learning how to calculate the expected rate of return on the investment can help you get a clearer picture of what the payoff will look like when it’s time to retire.
One never really knows what retired life might bring. Lots of unexpected expenses could arise.
An extensive home repair or renovation or maybe even a costly relocation to another state or country might make an unforeseen dent in retirement funds.
A major medical incident or the factoring in of long-term care can be another unexpected expense, as are caregiver costs if you or a family member need help.
Some seniors are surprised to learn that health care can get costly in retirement and Medicare may not always be free. Many of the services they might need could require out-of-pocket payments that eat into savings.
As much as we might not want to imagine such scenarios, there could be the chance of a divorce during retirement, which could cause a redraft of the savings plan.
Creating a budget to estimate expenses is a great way to get ahead of any surprising financial setbacks that could sneak up down the line.
Inflation can take a hefty toll on retirement savings. Even average rates of inflation might have a significant impact on how much retirement funds will actually be worth when they’re withdrawn. For example, $1,500 in January 2000 had the same buying power as $2,293.68 in March of 2020.
Understanding how inflation can affect your retirement savings might ensure you have enough funds padded out to support you for the long haul.
Market Volatility and Investment Losses
Regardless of financial situation or age, checking in on retirement accounts and the climate on Wall Street could help clarify how market swings might affect your retirement savings.
Retirees with defined contribution plans might suffer financial losses if they withdraw invested funds during a volatile market. Not panicking and having enough emergency funds to cover 3-6 months of living expenses can help you weather the storm. Talking to an investment advisor about rebalancing a portfolio to reduce risk is another option for getting ahead of this unexpected savings speedbump.
💡 Quick Tip: When people talk about investment risk, they mean the risk of losing money. Some investments are higher risk, some are lower. Be sure to bear this in mind when investing online.
Ways to Calculate How Much You Might Need to Retire
Are you on track for retirement? That’s something that can be calculated in many ways, which vary in efficacy depending on who you ask.
Here are a few formulas and calculations you can use to consider how much to save for retirement:
The 4 Percent Rule
The 4 Percent Rule, first used by financial planner William Bengen in 1994, assesses how different withdrawal rates can affect a person’s portfolio to ensure they won’t outlive the funds. According to the rule, “assuming a minimum requirement of 30 years of portfolio longevity, a first-year withdrawal of 4 percent, followed by inflation-adjusted withdrawals in subsequent years, should be safe [for retirement].” Bengen has since adjusted the rule to 4.5% for the first year’s withdrawal.
The jury is out on whether 4% is a safe withdrawal rate in retirement, but many people have used it to weather poorly performing stock markets.
The Multiply by 25 Rule
This one can get a little controversial, but the Multiply by 25 rule, which expanded upon Bengen’s 4% Rule with the 1998 Trinity Study, involves taking a “hoped for” annual retirement income and multiplying it by 25 to determine how much money would be needed to retire.
For example, if you’d like to bring in $75,000 annually without working, multiply that number by 25, and you’ll find you need $1,875,000 to retire. That figure might seem scary, but it doesn’t factor in alternate sources of income like Social Security, investments, etc.
This rule has been banked on by many retirees. However, it’s based on a 30-year retirement period. For those hoping to retire before the age of 65, this could mean insufficient funds in the later years of life.
The Replacement Ratio
The Replacement Ratio helps estimate what percentage of someone’s pre-retirement income they’ll need to keep up with their current lifestyle during retirement.
The typical target in many studies shows 70-85% as the suggested range, but variables like income level, marital status, homeownership, health, and other demographic differences all affect a person’s desired replacement ratio, as do the types of retirement accounts they hold.
Also, the Replacement Ratio is based on how much a person was making pre-retirement, so while an 85% ratio might make sense for a household bringing in $100,000 to $150,000 per year, a household with higher earnings — say $250,000 — might not actually need $212,000 each year during retirement. A way to supplement this calculation could be to estimate how much of your current spending will stay the same during retirement.
Social Security Benefits Calculator
By entering the date of birth and highest annual work income, the Consumer Financial Protection Bureau’s Social Security Calculator can determine how much money you might receive in estimated Social Security benefits during retirement.
Other Factors To Calculate
Expected Rate of Returns
Determining the rate of return on investments in retirement can help clarify how long your savings could last. An investment’s expected rate of returns can be calculated by taking the potential return outcomes, multiplying them by the likelihood that they’ll occur, and totaling the results.
Here’s an example: If an investment has a 50% chance of gaining 30% and a 50% chance of losing 20%, the expected rate of returns would be 50% ⨉ 30% + 50% ⨉ 20%, which is an estimated 25% return on the investment.
Home Improvement Costs
If a renovation is looking like it will be necessary down the line, you might calculate how much that home repair project could cost and factor it into your retirement planning.
You might also consider using an inflation calculator to uncover what your buying power will really be worth when you retire.
💡 Quick Tip: How much does it cost to set up an IRA? Often there are no fees to open an IRA, but you typically pay investment costs for the securities in your portfolio.
Making Retirement Savings Last Longer
If you’re still wondering how long your savings will last or seeking potential ways to make it last longer, a few of these strategies could help:
Lower Fixed Expenses
Unexpected expenses are likely to creep up regardless of how much you save, but by lowering fixed expenses like mortgage and rent payments, food, insurance, and transportation costs, you might be able to slow the spending of your savings over time. Setting a budget is a solid way to see this in black and white.
Maximize Social Security
While opting into Social Security benefits immediately upon eligibility at 62 might sound appealing, it could significantly reduce the benefit over time. With smaller cost of living adjustments later in life, a lengthy retirement (people are living longer than ever before) could mean less money when you need it the most.
Unexpected medical expenses might still occur, but by safeguarding health and wellbeing earlier in life, you could avoid costly chronic conditions like high blood pressure, diabetes, or heart disease.
Whether it’s staying in the full-time workforce for a couple more years or starting a ride-share side hustle during retirement, continuing to bring in money can help you stretch your savings out a little longer.
Everyone wants a secure retirement. An important step in your retirement plan is calculating how long your savings will likely last. While there is no way to know for sure, this is such an important step in long-term planning that many different methods and strategies have evolved to help people feel more in control.
There are investment strategies, tax strategies, and income strategies that can help you create a realistic forecast of how you’re doing now, and how your retirement savings may play out in the future. Because there are so many risks and variables — from the markets to an individual’s own health — just having a basic calculation will prove useful.
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