Most people want to know how much money they need to retire without outliving their assets. While volumes of advice and information are available, there are many retirement myths as well—our case in point: retirement numbers. Retirement goals are different for everyone, so a magic-number approach to calculating how much you need often does not paint an accurate picture of your future. Let’s look at some of the most common cookie-cutter numbers available.
Retirement number: 70
One popular guideline is to plan to spend 70% of your current income in your retirement years. That is, if you make $100,000 annually, you will need $70,000 per year in retirement. We find this overly generalized. We have many clients who chose to retire early and then spent their golden years traveling, and they spent much more than 70% of their income. Likewise, we have many clients who retired late and had already traveled the world. They just wanted to spend their days fishing or playing golf, thus they spend much less.
How much you need depends on when you choose to retire and what your goal is for your retirement years. Other factors such as life expectancy and overall health also factor in to how much you may actually need.
Retirement number: 4
Some advisers suggest that you spend an inflation-adjusted 4% of your retirement assets each year, but do not confuse this with how you would pull your money out. If you were to take out 4% each year, you would eventually find yourself selling in a down market. Also, the key words here are “inflation-adjusted.” If you assume the historic rate of inflation of about 3.7% over the last 60 years, then you will need to withdraw 7.7% of your balance. Imagine how much that would affect your portfolio in a down market.
At Henssler Financial, we use 4% as a guideline. Would 4% of your assets cover your spending? If the answer to that is yes, then perhaps you are OK.
Retirement number: 62
Sixty-two is the earliest age a retiree can collect Social Security benefits at reduced levels. We have plenty of clients who are still working and earning a healthy income at 62. Generally, you do not want to take Social Security benefits if you are earning more than $14,160; otherwise, it will be taxed twice.
If you choose to continue working, you be able to continue to contribute to your retirement accounts. Additionally, when you delay taking Social Security benefits, you increase the amount you will receive when you do apply for benefits. Currently, full retirement age, the age you are eligible to receive full benefits, is 66 years old. If you enjoy your work, there is no sense in retiring just to take Social Security benefits.
Retirement number: 1,000,000
Some retirement advisers suggest you have $1 million as your retirement goal, but $1 million will not go very far if you intend to spend $70,000 a year in retirement. The maximum monthly benefit a retiree could receive this year at age 66 is $2,346. However, this figure is based on earnings at the maximum taxable amount for every year after age 21. Not many people will get that. The average full benefit is around $1,000 or about $12,000 a year. Basically, if you are looking to spend $70,000 in retirement, you will need much more than $1 million.
But let’s look at a very simplistic example of a $1 million retirement fund, applying our Ten Year Rule. Our philosophy is you put any money you will need in the next 10 years in fixed income investments and any money that you do not need in the next 10 years into growth investments.
If you have $1 million, using the 4% spending guideline would mean you can spend $40,000 a year. So based on our Ten Year Rule, we would take 10 years of liquidity, in this case $400,000 and place it in fixed income investments. The remaining $600,000 would remain in growth investments.
We are going to use relatively conservative numbers and assume you could earn 2% in interest a year on your fixed investments and about 8% on your growth—5% coming from capital gains and 3% from dividends.
With these rates, you would be earning $18,000 a year in dividends and $8,000 on your fixed income investments. That is $26,000 before taxes. Now, assuming a 33% tax rate, you are earning just under $17,500 a year. If your goal is $40,000 a year, your retirement portfolio is earning you 43% of the amount you need. Of course this does not include your Social Security benefits or a pension.
By earning nearly $17,500 a year on your portfolio, you only have to draw the difference from your fixed income investments. If you continued to do that, at the end of 10 years, you would have $225,000 left in your fixed-income portfolio, equaling another five years of liquidity!
Now remember your growth investments. Assuming they have grown at 5%, your stock portfolio is now worth $977,336. Add that to your remaining fixed income investments and you have $1,202,336—more than you started with.
This is a very simplistic example as this does not take into account an inflation factor, but this example shows you how our Ten Year Rule works and that selling stocks in a down market can be avoided because each year you needed liquidity, you would be able to pull from fixed-income investments. In a 50% down market, you would need to sell $2 worth of stock to get $1. To us, this just does not make sense.
Investing requires you to be unemotional and disciplined to make the moves necessary for your portfolio. We find when the market is up, and stocks are high, the last move investors want to make is to sell their stocks and buy bonds, because bonds are so low in comparison. However, those bonds can provide another 10 years of liquidity. Now, when the market is unpredictable, we find people are interested in the safety of bonds, but they are paying historically low rates. In our eyes, this is the worst time to be buying bonds.
While the market has had a very rough patch during the last 10 years, you have to remember, during that time the market hit an all-time high. We aim to sell stocks when the market is up and then buy bonds, locking in liquidity for the future for our clients.
Disclosures
This article is meant to provide valuable background information on particular investments, NOT a recommendation to buy. The investments referenced within this article may currently be traded by Henssler Financial. All material presented is compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. The contents are intended for general information purposes only. Information provided should not be the sole basis in making any decisions and is not intended to replace the advice of a qualified professional, such as a tax consultant, insurance adviser or attorney. Although this material is designed to provide accurate and authoritative information with respect to the subject matter, it may not apply in all situations. Readers are urged to consult with their adviser concerning specific situations and questions. This is not to be construed as an offer to buy or sell any financial instruments. It is not our intention to state, indicate or imply in any manner that current or past results are indicative of future profitability or expectations. As with all investments, there are associated inherent risks. Please obtain and review all financial material carefully before investing. Henssler is not licensed to offer or sell insurance products, and this overview is not to be construed as an offer to purchase any insurance products.
