If you look at advice from financial adviser after adviser, they all say you need to have 70 to 80 percent of your pre-retirement income and at least 10 times your earnings in savings in order to maintain your same living standard in retirement. Is this really true, or is there a certain amount of scare tactics in all all this advice (after all, you more you save and invest through those same advisers, the better their income will be!)?
Let’s look at what changes when you retire. The big change in income sources is from your paycheck to social security, pensions, and money you withdraw from your savings (instead of adding to those savings). The other big changes deal with what you do in retirement – at the least, there is no more daily commute to work, which might mean no need for two cars, but might also include more vacation type travel that you couldn’t do while working. Let’s put some numbers behind this.
Assume a total family income of $100,000. Out of this, you normally pay a net of about $13,000 in federal and state income taxes, plus an additional $7400 in social security and medicare taxes. In California, there’s also another $900 in worker’s compensation taxes. So your net after tax income is about $78,700. If you’ve been following the advice about savings, you’ve also been stashing at least another $5000 in your IRA/401K, and paying another $4000 in medical insurance, assuming a typical employer/employee split of this cost. So your actual cash income to handle everything else is about $69,700. This number matches up pretty well with the low end of what they say you’ll need in income, but will you still need this much?
As alluded to earlier, one of biggest changes when retiring is no more commute or need for a second car. Just how much does this cost? The annual cost of car is about $2500, assuming a typical car bought and held for 10 years. Gas for a 20 mile commute 250 days a year at 25 mpg at $3.35/gallon is $1340. Car maintenance is another $800 (tuneups/oil changes/smog checks/tires, etc). Auto insurance is another $600/year. Total cost/year $5240/year, which is not insignificant. Let’s reduce what you need to retire by this amount, leaving us with $64,500 that we need to find somewhere.
The other big change is hopefully you have now paid off your mortgage on your house, or, if not, you have enough equity to buy another smaller house (after all, there probably aren’t any kids to house any more) free and clear. This is probably the biggest variable in calculating what you’ll need; obviously if you’ve been renting all your life, you’ll still need to rent or take enough out of your savings to buy one. As a mortgage on a $250,000 house runs about $1250/month or about $15000/year, whether or not you’ll need to fund this in retirement is a big deal. I’ll assume for the moment you don’t need this, leaving us with only $49,500/year to come up with.
Social security at full retirement age for someone who earns $100,000 (and has earned similar amounts adjusted for inflation through most of his/her working life) is about $2500/month, or $30,000/year. This leaves about $20,000 that we need to get from our savings. Assuming you’re withdrawing at 4% from your IRA/401K, that means the account balance should be $500,000. Note that at this income level, your federal and state income taxes are near nonexistent. If you haven’t paid off your house, let’s add another $250,000 so you can buy one. This makes the total savings needed is $750,000, still quite a bit less than the advisers advocate.
So it would seem from all the above that the advisers are inflating the requirements by about 1/3 to ½, which is quite a bit. More might be better, but some people are being scared so much by the advertised numbers that they are delaying retirement, and possibly missing some of the best times of their lives.