How Much Money Do You Need for Retirement
Planning for retirement can feel daunting, especially when trying to figure out how much money you’ll need to maintain your current lifestyle. There isn’t a one-size-fits-all answer. The amount you need will depend on a long list of personal info, like your current financials, retirement goals, the expected cost of retirement, and how long you expect to be retired. What we can do is share some general rules that’ll help you estimate your retirement needs.
Three Steps for Estimating and Planning for Retirement
We’re going to share the three rules that serve as steps for estimating what you’ll need to do to set yourself up for a comfortable retirement: the Replacement Ratio Rule, the 25x Rule, and the 4% rule.
These will give you an idea for:
- How much you’ll need for each year you’re retired
- How much you should save each year to set that money aside
- How much you’d be able to spend each year, based on your retirement savings
1. The Replacement Ratio Rule
If you’re searching around for information on retirement, the Replacement Ration Rule is probably the most common method you’re going to find for estimating how much you should save for your post-professional years.
The rule is simple: take what your current annual income is and calculate 70-80% of it.
That’s it? Yeah, that’s it! This is based on how some common costs of living decrease when you retire. Things like commute, professional dress, and contributions to retirement savings programs. It doesn’t factor in other costs, though, like the cost of healthcare, emergencies, or that three month trip to Tahiti you’ve always wanted to take.
2. The 25x Rule
The 25x rule is a simple equation to calculate what you’ll need to save each year in order to hit your retirement income needs. It uses an assumption that each year of retirement, you’ll withdraw 4% of your total retirement savings (we’ll circle back to that number in the third rule).
To use the 25x rule, you multiply your desired annual retirement income (form the Replacement Ratio Rule) by 25.
Here’s a hypothetical:
- If you’re currently making $100,000 per year, your Replacement Ratio Rule says you should have $70,000 per year of retirement.
- The 25x rule then says that you’ll need to save $1.75 million ($70,000 x 25) to achieve it.
That’s a daunting-sounding number, but is much more achievable when you factor in things like tax benefits of 401k and Roth IRA plans, employer matches on retirement savings, and the huge amounts of interest you’ll earn if you’re starting to save while you’re young.
3. The 4% Rule
Let’s look back at that 4% rule, which estimates that you should save enough money to be able to withdraw 4% of it in each year of retirement and have the amount last for 30 years.
Think of it as the reverse of the Replacement Ratio Rule. Instead of estimating how much money you need, it estimates how much money you get each year based on your savings.
For example, if you’ve saved $1 million, you have enough money to spend $40,000 per year for 30 years. ($1,000,000 * 0.04 = $40,000)
Why Should I Plan To Save for 30 Years of Retirement?
In the US, there is a set Federal Retirement Age (FRA) based on the year you were born:
- 1957 or earlier: Full benefits are already available
- 1943–1954: FRA is 66
- 1955–1960: FRA increases gradually until it reaches 67
- 1960 or later: FRA is 67
If you were born after 1960, this means your 4% rule calculation has you retiring at 67 and flush with cash until you’re 97, well above the average life expectancy of 77.43.
Does this mean you don’t need to worry about 30 years of retirement?
Heck no! You go to the gym, play intramural soccer, eat an apple every day, and brush your teeth. 97 is a cakewalk.
What Else To Think About for Retirement
These rules do a great job of getting you a starting point for your retirement savings and give you a method to check in on how you’re doing so far. What they don’t do is factor in some important external factors, like healthcare costs, if you live past your late 90s, if you have debt, the cost of inflation, the benefits of social security and interest, and more.
Calculator.net has some awesome retirement calculator tools to help you, if you want to learn more. Here are some other helpful places to get information about retirement planning:
- USA.gov has a number of retirement planning tools
- The Social Security Administration will help you calculate your potential benefits
The US Department of Labor has an awesome retirement toolkit they’ve put together.