Investing For Your Future
Monthly IFYF Investment Message
March 2006
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How much money do you need to accumulate for a comfortable retirement? The short answer is "it depends." Among the factors that need to be considered are: desired age at retirement, projected life expectancy, average annual investment returns, retirement lifestyle decisions (e.g., choice of housing) and availability of employer-provided benefits (e.g., retiree health insurance and pensions).
Research indicates that less than half of American workers have ever calculated the amount that they need to save for retirement. It has been shown, however, that the act of doing a retirement savings need calculation is associated with increased savings. When people see how much they need to save, in dollars and cents, they are often motivated to save more money. Putting a date and a price on financial goals makes them "real" in a person's mind and, thus, harder to delay and ignore.
A helpful resource for making retirement savings calculations is the American Savings Education Council's Ballpark Estimate worksheet available at http://www.asec.org. Recently updated to allow users to make more precise life expectancy estimates, the Ballpark Estimate is a simple one-page tool that provides users with the annual savings amount necessary to provide a desired amount of annual retirement income. The annual savings figure can then be broken down further by the number of paychecks received during a year. For example, $4,500 of annual savings would require about $170 of bi-weekly savings. If a worker receives an employer match (e.g., with 401(k) plans), part of the required savings amount can come from "other people's money." Employer matching is free money that should not be foregone if at all possible. Many employers will match all or a portion of employee contributions, often up to as much as 6% to 8% of a worker's pay.
The following general guideline is another way to calculate required retirement savings. For every $1,000 of monthly income needed to supplement Social Security and/or employer benefits, $300,000 of accumulated savings is required. This figure is based on a 4% withdrawal rate recommended by many research studies in order to avoid outliving one's assets. Four percent of $300,000 is $12,000 a year or $1,000 per month. Monthly income withdrawals of $3,000 would require $900,000 of accumulated savings. The 4% withdrawal rate is based on investment portfolios with at least half of the assets invested in stock. More conservative investors are advised to withdraw less than 4% of portfolio assets due to their lower average annual return.
Unfortunately, many U.S. households are not saving anywhere near the amounts suggested by retirement savings tools or the above guideline. According to the 2001 Survey of Consumer Finances, conducted by the Federal Reserve, the median net worth of U.S. households is $86,100. Net worth is calculated by subtracting household debts from assets and the median is the midpoint with half of all households below the $86,100 net worth figure and half above. For those who have not saved enough money to maintain their living standard in retirement, various "catch up" strategies can be employed such as delaying retirement, working after retirement, and moving to a less expensive home to reduce living costs. A comprehensive review of strategies to make up for lost time can be found in the Guidebook to Help Late Savers Prepare For Retirement at http://www.nefe.org/latesavers/index.html.
Investing For Your Future is another resource to assist users with investing for retirement savings goals. Unit 3 discusses ways to find money to invest and Unit 7 discusses tax-deferred retirement investment plans such as IRAs, SEPs, 403(b)s, and 401(k)s. For further information, see http://www.investing.rutgers.edu.