Two-thirds of 401(k) participants polled for a recent J.P. Morgan Asset Management report said they could better plan for retirement if their employers helped them “understand their numbers”—that is, get a handle on such specifics as how much they should be saving and how much money they should have in retirement accounts to ensure a secure post-career life.
Given the many uncertainties involved in making projections decades into the future, it’s impossible to expect precise targets. Still, some figures can provide general but still valuable guidance. Here are four key numbers that can make retirement planning less daunting and at the very least get you going in the right direction until you come up with a more customized plan.
If you save this percentage of salary each year throughout your career, you’ll have a reasonable chance of building a nest egg that will be able to support you comfortably for the rest of your life. Indeed, this report from the Boston College Center for Retirement Research estimates that’s how much the typical U.S. household should save each year in order to maintain its pre-retirement living standard in retirement.
But while 15% is a good benchmark for most people—and, if nothing else a good starting point—your household may not be typical. You may have to save at a higher rate if, say, you’re getting a late start on retirement planning or you envision living large in retirement. Or you may be able to get by with a somewhat lower savings rate if you get an early start or if you have other resources, such as a traditional company pension, you can rely on to generate retirement income.
To get a more accurate sense of how much you should set aside annually based on such factors as your age, how much you’ve already saved, the percentage of your pre-retirement income you think you’ll need after you retire and how many years you expect to spend in retirement, you can rev up MONEY’s How Much Do I Need To Save For Retirement calculator.
Subtract your age from this number and you’ll come away with a pretty good estimate of how much of your retirement savings should be in stocks. So, for example, a 20-year-old would stash 90% of his or her retirement portfolio in stocks with the remaining 10% invested in bonds, while a 50-year-old would have a more moderate mix of 60% stocks and 40% bonds.
The idea is that young investors should be able to tolerate the stock market’s sometimes wild ups and downs in return for stocks’ superior wealth-building gains, since they’ll have plenty of time to recoup short-term losses. As you near and enter retirement, however, preserving the savings you’ve accumulated becomes more important, which calls for a bigger bond stake to offset stocks’ higher volatility.
But even though this notion of starting with a high exposure to stocks and lowering it as you age makes sense, some young investors may prefer a less stock-heavy portfolio for any number of reasons. For example, they may have a lower tolerance for risk or they may feel there’s a chance they’ll have to tap into their savings before retirement. Similarly, some older investors may be willing to invest more of their savings in stocks if they have access to other resources (such as home equity) that can help them ride out setbacks in the market or if their nest egg is so large that the chances of running through it are minimal even if their portfolio gets whacked with substantial losses.
You can come up with a stocks/bonds allocation that more closely matches your particular needs and tastes by completing a risk tolerance asset allocation questionnaire like this free 11-question version from Vanguard. Or, if you’re not comfortable building a portfolio on your own, you can go to an adviser for help or check out one of the new breed of low-cost “robo-advisers” that use algorithms and other technology to create an asset mix that jibes with your risk tolerance and financial goals.
This figure, which comes from financial planner Charles Farrell’s book Your Money Ratios, represents the multiple of your salary you should have socked away in retirement accounts by age 45—or about halfway through your career—in order to have a decent shot at a secure retirement. So by this metric, if you’re 45 and earning $80,000 a year, your nest egg should total roughly $300,000. If you’re approaching this age and find yourself well short of this level of savings—or, more troubling, you’re older and are lagging far behind this figure—it’s a good sign you need to find ways to close the gap between where you are and where you should be in your retirement planning efforts.
As you might expect, there are a lot of assumptions behind this benchmark. Among other things, this figure assumes you’ll want to retire at age 65 on 80% of your pre-retirement income and that you’ll continue to save 15% of pay each year until you retire. Change one or two assumptions, and the amount of savings you should have on hand by age 45 can drop. For example, if you’re willing to retire at 65 with 70% rather than 80% of pre-retirement income, you’ll need to have accumulated roughly three times salary by age 45 and then save 13% a year instead of 15%. And if you’re okay with working all the way to age 70 and living on 70% of your pre-retirement income, the number of years of salary you should have in savings by age 45 drops to 2.5 and the required annual savings rate, to 10%.
While this savings-to-income ratio can give you a quick way to gauge whether you’re roughly on track at different stages of your career—Farrell also offers benchmarks for ages 25 to 65 in his book—you should consider getting a more customized view of where you stand. You can do that by going to a retirement income calculator that allows you to plug in your specific financial information (savings rate, retirement account balances, your stocks/bonds allocation, how many years you expect to spend in retirement, etc.) and then uses computerized simulations to estimate your chances of being able to retire on schedule with enough income to maintain your preferred lifestyle. You’ll find such a calculator in the Tools & Calculators section of my Retirement Toolbox.
This is the maximum percentage of assets you should withdraw the first year of retirement, if you want a high level of assurance that your nest egg will support you for at least 30 years. So if you’ve got $1 million saved, you would withdraw no more than 4%, or $40,000, that first year. To ensure that your income keeps pace with rising prices, you would boost that initial dollar amount by the inflation rate each year. So if inflation is running at, say, 2% a year, you would withdraw $40,800 the second year, about $41,600 the third and so on.
This “4% rule” comes with some important caveats, however. One is that you can run through your savings too soon if your retirement investments generate subpar returns. In fact, given today’s low yields and forecasts for below-average gains in the years ahead, some retirement experts believe that an initial withdrawal rate of 3% or even lower may be more appropriate if you want your nest egg to last at least 30 years.
Another caveat is that if your retirement portfolio performs well, following the 4% rule could leave you with a big pile of savings late in retirement. That may not seem like a drawback, but it could mean that you unnecessarily stinted early in retirement.
So while the 4% rule can be helpful as a general guide for spending down your retirement nest egg—or for estimating before you retire whether you have enough savings to generate the income you’ll need—you’ll probably want to create a more flexible and customized withdrawal plan. You can do that by going to a retirement withdrawal calculator, like this one on the American Institute For Economic Research site, which lets you factor in how long you might live, how your nest egg is invested and how much assurance you want that you won’t outlive your savings. By re-running the analysis every year or so with updated information, you can then adjust your withdrawals as necessary, so you don’t run through your savings too quickly—or end up with a large nest egg late in life along with regrets you didn’t spend more freely earlier in retirement.
Walter Updegrave is the editor of RealDealRetirement.com. If you have a question on retirement or investing that you would like Walter to answer online, send it to him at [email protected]. You can tweet Walter at @RealDealRetire.