How Much Money Will You Need for Retirement?

Retirement planning can be tricky. With average life expectancy increasing, it’s hard to predict how many years of retirement you’ll have, let alone how much money you’ll need. None of us want to be penny-pinching during our golden years. So how much should you budget for, and how big should your nest egg be? Though the answer will vary from person to person, in this article, we’ll provide some guidelines to help get you started.

How much do I need to retire comfortably?

The general consensus among the financial community is that retirees need approximately 70% of their pre-retirement income. The reasoning is that by retirement age, your mortgage will probably be paid off, your dependent children will most likely have moved out, and your general cost of living will have decreased.

There are a couple of important things to note here. Firstly, pre-retirement income is your income in the year before you retire. By then, you’ll probably have progressed in your career and will be earning more than you are now, so it’s important to factor that growth in.

Secondly, 70% is an arbitrary number with no statistical basis. In reality, people generally spend anywhere between 60% and 100% of their pre-retirement income. It’s better to think of the 70% rule is a guideline that you can adjust up or down to suit your personal circumstances.

How much do I need to save?

Generally speaking, financial planners suggest you only spend 4% of your savings each year of your retirement. This is sometimes referred to as the 4% withdrawal rate rule.

For example, if you have $1.25 million in savings, you can spend up to 4% or $50,000 each year.

If you know how much retirement income you’ll need, but want to figure out how much to save, you can multiply your desired income by 25.

For example, if you want your withdrawal rate to be $50k each year, then you can multiply $50k by 25 to get the $1.25 million needed in savings.

The important thing to note about the 4% withdrawal rate rule is that it assumes most retirees invest around 40% of their savings in shares and equities. Historical data shows that if you have 50% in equities, then your savings would grow around 7% each year on average. By limiting spending to 4%, you won’t be eating into your savings, and your nest egg can keep growing.

Of course, there’s no guarantee that the stock market in the future will perform as well as it has in the past. After all, it’s famously volatile, and some people are not comfortable with that kind of uncertainty. If you don’t want to invest in stocks in retirement, then the 4% withdrawal rate rule may not be the right strategy for you.

Can life insurance help fund my retirement?

Traditional life insurance pays money to your dependents upon your death. But did you know that some life insurance products allow you to access funds before you die? The two main products that offer this feature are whole life insurance and universal life insurance.

Whole life insurance

Unlike a fixed-term policy, which expires after a set number of years, whole life insurance covers you until the day you die. It’s a bit more expensive than a fixed-term policy, but part of your premium each month is put aside in a reserve. This is known as the policy’s “cash value,” and you can borrow from it during retirement.

Usually, these loans are tax-free, but you will be charged interest, which you can pay straight away or defer. If you defer the interest owed, it will be debited from the policy’s death benefit, reducing the money your dependents get upon your death.

Universal life insurance

Universal life insurance is similar to whole life insurance, with two main differences. The first is that the cash value of a universal policy is invested and generates returns so that your money keeps growing. This means that you can borrow more, but will still need to pay interest on the loan.

The second difference is that unlike whole life policies, which have set premiums, universal life policies allow you to vary your premium amount. You can also add extra funds to the cash value investments. Or if you experience financial difficulties, you can pay less, which gives you a lot of flexibility.

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How do taxes affect my retirement income?

Retirement accounts have a range of tax benefits that you can take advantage of.

For example, if you have a Roth IRA account, you pay tax when you put money into the account, but your withdrawals in retirement will be tax-free. Depending on your income tax rate at retirement, this could save you 10-37% in taxes.

Regular 401k distributions, on the other hand, are taxed as income in retirement. However, you save on taxes when you contribute to a 401k during your working years.

Income from Social Security also comes with tax benefits. If your retirement income is less than $25,000 (or $34,000 for a married couple), your Social Security benefits are tax-free. Up to 50% of your benefits are taxable if you’re a mid-income earner. High earners are taxed on up to 85% of their Social Security benefits.

It’s likely that at least one of your income sources can be tax-advantaged, which makes a difference in how much you will need to save for retirement.

What can change your income needs in retirement?

Any kind of life change that affects you financially may impact your retirement plans. Examples include:

  • unexpected illness, which can lead to high medical bills
  • divorce or the death of a spouse, or
  • your adult kids moving back in and becoming financially dependent on you again

A downturn in the stock market can also impact your retirement savings.

So how can you protect yourself against these kinds of financial shocks?

Save more

You may want to save extra so that you have a buffer if things change. The earlier you start saving, the more time your money has to generate investment returns.

Owning your home can also help since you can take out a reverse mortgage or sell it if you need cash. It can also reduce your monthly expenses compared to having to pay rent.

Be flexible about work

With medical advancements, most people are still fit and healthy when they reach 65, and some of us are expected to live beyond 100 years. Funding 30 to 40 years of retirement can be an enormous financial strain, and governments around the world are considering extending the pension eligibility age beyond 67.

It’s important to factor these considerations into your retirement plan. You may need to work beyond the age of 65, either full- or part-time. What career changes can you make now to set yourself up for flexible, enjoyable work in your golden years?

Final words

Just as we all live unique lives, we will all have unique retirements with very different financial needs. Though financial planning can seem as impossible as predicting the future, there are many things you can do to set yourself on the road to your ideal retirement. The key is to start planning early so that you can enjoy your golden years.

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