The bad news is that, unless you have a defined benefit pension plan or you die young, you will likely not have sufficient retirement assets to last for your lifetime. Americans are not saving nearly enough for retirement. Let’s assume that you will have an investment return of 4% after retirement and want to retire at age 65. The average person will need to have accumulated at least 16 times their annual salary projected to age 65. For example, if you are expected to make $40,000 per year at retirement, then you will need $640,000 at age 65. Or, if you are expected to make $100,000 per year at retirement, then you will need $1.6 million at age 65.
In addition, you will need assets (over and above those discussed above) to cover at least these expenses:
1. Nursing home care can cost about $75,000 per year today (maybe much more when you need it.) You can buy long-term care insurance to hedge some or all of these costs.
2. You may outlive your expected life expectancy (factored into the “16 times” rule of thumb used above.) Longevity insurance can be purchased to make payments to you for as long as you live after you attain, say, age 85.
3. Inflation may ramp up especially on medical, dental, vision, hearing and pharmacy costs. You may be surprised that Medicare supplements may be very expensive and that deductibles and co-payments are rising.
4. Special one-time expenses (new roof, new car, etc.)
Unless you take advantages of the long-term care and longevity insurances described above, these items could add $500,000 to your projected retirement target.
The good news is that with advance planning and good investment performance, you may very well be able to retire comfortably. The younger you start and the more you save, the better off you will be and the earlier you can retire. Here are the steps that I recommend to give you a “ball park” estimate of when you can retire:
1. Pick, realistically, the age that you think you can retire.
2. Project your annual salary at retirement from your current annual salary by accumulating your current annual salary at, say, 3% per year compounded (use a financial calculator) from your current age to your retirement age.
3. Multiply the result in (2.) above by 16. Unless you take advantages of the long-term care and longevity insurances described above, add $500,000 to this amount. This is your target retirement balance.
4. Project your current retirement account balance by accumulating it at, say, 4% per year compounded (use a financial calculator) from the months between your current age to your retirement age.
5. Subtract the result in (4.) above from the amount in (3.) above. This is the remaining amount that you have to save for at retirement.
6. Use a financial calculator to determine the monthly contribution that you will have to make for the number of months between your current age and your retirement age at, say, 4% compounded that will accumulate to the amount in (5.) above.
7. If this monthly contribution is too high, repeat this process using a later retirement age.
Once you have selected the retirement age that works for you, make the contributions and repeat this process every 5 years to be sure that you stay on track.
If you are still nowhere in the ball park, make some big changes:
1. Work pert-time or full-time throughout retirement.
2. Downsize you home.
3. Relocate to a lower cost city.
4. Reduce your lifestyle and living expenses.