It can be hard to figure out how much to save for retirement. One common approach is to simply assume you need $1 million in your 401(k) or retirement accounts with your brokerage firm. After all, $1 million is a number often associated with wealth.
Unfortunately, saving a seven-figure nest egg may seem out of reach, especially if you’re getting started investing late or don’t have a lot of spare cash. So, it’s worth looking at whether saving $1 million is really necessary for most people or whether you can get by with less.
Is $1 million really necessary for a comfortable retirement?
While it may be easy to assume you need $1 million, choosing an arbitrary number like this isn’t the right way to set your retirement savings goals. Instead, you should make a personalized plan for the amount of savings you need based on factors like:
- Your retirement budget. Will you be living in a high-cost-of-living area and traveling the world? Or will you be staying home and hanging with your grandkids in your paid-off house in a small town? These choices will have a huge impact on the savings you need and the budget you’ll create.
- Your projected life expectancy. Does everyone in your family live into their 90s? Or do most people pass away at a younger age due to a family history of hereditary conditions? The longer you’re expected to live, the more money you’ll want saved so your accounts don’t run dry.
- Your income. If you make more money during your working life, you’ll have established a higher standard of living. You’ll need more money to continue to live the lifestyle to which you’ve become accustomed.
All of these examples demonstrate a fundamental fact. Your retirement goals are personal and they directly impact the amount of money you’re going to require.
Here’s how to set your own retirement goals
So, will $1 million be necessary for you to retire comfortably based on your goals? Here’s a simple way to tell.
Most experts say you must replace around 70% to 80% of pre-retirement earnings to maintain your lifestyle. If you plan to spend a lot during retirement, you may want to err on the side of caution and aim to replace 90% or even 100% of what you made before you left work.
Your Social Security benefits are going to take care of replacing around 40%. So, depending on your goals, you may need to replace another 30% to 60% of what you were earning.
If you were making $50,000 per year and you want to end up with 80% of pre-retirement earnings in total from savings and Social Security, that would mean you need $20,000 to add to your $20,000 in Social Security checks.
The 4% rule
Now you need to figure out how much you must have saved to produce $20,000 in annual income. A common rule of thumb says you can take 4% of your balance out of your investment accounts the first year and adjust upward due to inflation if you don’t want your money to run out. This is called the 4% rule.
If you follow the 4% rule, then you can figure out how much savings you need by multiplying the income you want it to produce by 25. So based on this example, $20,000 times 25 means you must have $500,000 saved — only half of the $1 million nest egg you might have thought you needed.
The bottom line
If you need your savings to produce around $40,000 to combine with Social Security and enable you to live a comfortable life, you must save $1 million. But if you think you can get by on less based on your goals, you don’t need to stress yourself out trying to hit that big target.
Instead, set a goal that’s realistic for you and do everything possible to hit it, so you can have the retirement you’ve always hoped for.
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