4%, 6%, or 10% of your income, which number sounds good to you? Is saving for retirement just picking a number out of thin air, or do you put serious thought into it? Is it too little? Too much? All these questions! My guess is you probably aren’t saving enough for retirement.
All the numbers are too small
While the numbers differ slightly, depending on the study, the average savings rate is somewhere between 4% and 8%. I guess that would be 6%, wouldn’t it? The point is, the average savings rate is too low. Much too low.
Think about the percentage of income you save for retirement. Do you even know? If you do, great, but how did you come up with that figure? Is it all you think you can afford? Do you contribute just enough to get a match from your employer? Your savings rate must be part of a much larger retirement plan.
What came first, the chicken or the retirement nest egg?
I need to correct myself; your savings rate is not part of the retirement plan, it’s the result of your retirement plan. Most people do it backwards. They begin saving and when they get close to retirement, they visit their CERTIFIED FINANCIAL PLANNING™ professional to determine their retirement readiness.
Of course beginning to save is a great thing. I encourage it, wholeheartedly, but it’s much more effective after you’ve put some work in to determine your retirement needs. I don’t care if you’re 25, it’s not too early. Time is your ally.
It’s much easier to refine the plan as needed throughout your life than to decide five years before retirement to take a look at how much you’ll need to retire. Time is no longer your friend.
Can you handle the truth?
The golden years of retirement savings are over. Your parents and grandparents probably had what was typically referred to as the 3-legged retirement stool. The stool consisted of a
- Retirement plan 401(k)/403(b)
- Social Security
On top of that, the chances are they probably worked for the same employer for the majority of their careers. Those days are over.
The truth is you’re going to have to work a bit harder (to save more), and maybe longer. You most likely won’t work for the same company for 30+ years, and you probably won’t have a pension. You’re left with a two-legged retirement stool. Try sitting on that!
The monkey on your back
Unfortunately, you do have one thing many of your parents and grandparents didn’t have, DEBT! According to the Employee Benefit Research Institute, the percentage of American households where the head of household was age 55 or older that had financial liabilities increased to 65.4% in 2013 from 53.8% in 1992.
So your retirement stool has one less leg and is holding more weight with the added burden of debt. More debt and less savings are not a recipe for retirement success.
Here’s an example:
You are 25 years old, make $50,000 per year, contribute 5% to your 401(k), you get a 3% salary increase and 5% investment return annually. After 40 years your balance would be $495,856.
That sounds pretty good but remember in 40 years if your salary increases 3% per year, you’re making $163,101.89 per year. If you need 90% of your income at retirement, that’s $146,791. That means you have slightly more than three years of your retirement needs saved up.
Retirement could last 30 years. Even with Social Security, that amount of savings isn’t going to get you far.
What if the company matched 100% of your contributions up to 3%? Then you would have $793,369. That’s better than $495,856, but still not enough to get you through retirement.
Granted, that’s in a perfect world, and there are some assumptions you must take into consideration. That’s the point. The younger you are when planning for retirement, the longer you have to refine those assumptions, make adjustments, and understand what you must do to retire.
Take retirement responsibility
No use whining about not having a pension. That’s not going to help save any more for retirement. The reality is you need to step up your retirement game.
- Get your retirement plan in place, early. That means understanding how much you will you need, the kind of lifestyle you want, and how much debt you’ll have in retirement (try for none). This is how you’ll determine the appropriate retirement savings amount.
- Understand the options: 401(k)s, IRAs, annuities, taxable accounts. Learn about all of them and how they may fit into your plan.
- Up the savings: If you get a raise, use a portion of that raise to increase your retirement savings. If you pay off a significant debt, use the newly freed up cash to, you guessed it, increase your retirement savings.
- Be prepared for not retiring on your terms. Don’t think it can’t happen to you. It’s much more widespread than you think. Build this into your retirement plan. Expect the best, prepare for the worst.
The bottom line
How much should you be saving? It depends on your current income and how much of that you’ll need in retirement. The typical recommendation for the “average” person is at least 10%. I believe even that’s too low. I recommend that you should be saving 15% to 20% of your pre-tax income if you want to retire at age 65 or 66. Want to retire earlier? Better start jacking that rate up even higher.
Retirement may last 25 to 30 years or more. You may be retired for more years than you worked. That’s going to take a lot of income. You can’t just pick a savings amount and assume that that’s going to be good enough for retirement. You don’t want to approach retirement and find out you haven’t been saving enough.
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