When Can I Retire? Two Calculations (And a Bit of Philosophy) to Find the Answer
Posted in: Retirement Planning
Published: June 1, 2018
The question is not “When can I retire?” it’s “When can I retire so I don’t run out of money in my lifetime?” Wouldn’t it be great if there were a simple answer to tell you how much you need to retire without financial worry? Everyone is different, and the right amount for you will be different than the right amount for your neighbor. However, there are calculations each of us can make to determine if we have enough to retire and live the life we want.
Happy Retirees Plan Ahead
While it makes sense to gauge how much you will need, many of us avoid the topic because we fear the situation is hopeless and that we’ll never have enough. And, planning for retirement forces us to face the fact that we are aging. Yikes! While the ostrich approach of putting your head in the sand and doing nothing is the easiest approach, it doesn’t lead to the best outcomes. It is far less stressful to do the math, face reality, and figure out an action plan than it is to get to retirement and come up short.
Research shows the happiest retirees start planning at least five years before their desired retirement date. I wish people would start planning even earlier than that – the earlier you start to plan, the more knowledgeable you become about your situation, your options, and the financial arena. Knowledge is not only power, it is also comfort.
The sooner you run the calculations, the sooner you will find out if have enough to retire by a specific age. If you don’t have enough, by planning ahead, you can proactively address your options to improve your future. There are plenty of choices available to you, especially if you’re open to making changes to your lifestyle. Perhaps you can work a bit longer, find ways to earn extra money, reduce expenses, or move to a lower cost area, such as from the suburbs to a metropolitan area where you don’t need a car, or from a high-tax state to a small town in a different area of the country.
If you don’t have a lot of savings, and are willing to live on less to reach retirement sooner, you might consider an alternative retirement lifestyle. You can explore becoming an expat in a country like Portugal, where it’s cheaper to live, or live in an RV in a campground and earn part of your keep as the campground manager.
Or, like many clients we work with, you may be surprised to find out you already have enough. More than half of the clients we work with are shocked to discover their retirement dreams are well within reach with no need for them to make any substantial changes. It’s a lot of fun to get to deliver this news.
Calculating How Much You Need to Retire
If you want to know if retirement is a viable option in the near future, you’ll need to do some calculations based on how much you want to spend while in retirement. You can calculate how much you need to retire by projecting your income and expenses, and determining “the gap.”
Here’s a simplified version of a retirement plan calculation.
Let’s say you anticipate spending $75,000 a year in retirement and you estimate you will have $35,000 a year in fixed income (Social Security, annuities, and pensions). The gap you need to fill by withdrawing from savings and investments is $40,000 a year. At age 65, let’s conservatively assume you want to know this level of spending is sustainable for the next for 30 years. With simple math ($40,000 x 30) that adds up to $1,200,000 of withdrawals over your expected retirement lifetime. If you have more than that now, or you will have more than that saved by age 65, you will almost certainly have enough to retire.
The simple calculation above uses the “under the mattress” method by assuming your savings earns no interest in the years leading up to retirement and will earn none during 30 years of retirement.
If you plan to use a portfolio of retirement investments to accumulate and distribute retirement funds then you can factor in a rate of return that is more than zero. Let’s assume that you can count on 3% a year returns, which means your savings and investments earn enough to keep pace with inflation. Past returns for a balanced portfolio have been higher than this, but it’s not wise to count on historical average returns because at least half the time you will earn something less average.
So, how much do you need to accumulate to take $40,000 per year in withdrawals for 30 years if you are receiving a 3% return on your nest egg? Using a present value calculation, the amount is $784,017. Present value is the amount you need to have in the bank today, to deliver a future stream of cash. And it’s considerably less than the $1,200,000 in our previous “under the mattress” calculation.
In this example, if you have more than $784,000 saved by age 65, and you reasonably expect it to earn 3% a year or more, you have enough to retire. If you have less than $784,000, you may need to work longer, save more between now and retirement, or plan on spending less in retirement. For example, if you cut spending by $5,000 a year, than you would only need to withdraw $35,000 a year and the present value of $35,000 for 30 years, assuming investments earn 3%, is $686,015.
The calculations above don’t account for taxes, nor do they factor in changes you can make that can improve the outcome, such as the timing of when you begin Social Security and which accounts to draw from in which tax years. A qualified retirement planner can help in these ares and make your nest egg last longer.
Once you’ve done the calculations, you can move on to the softer side of retirement.
The Psychological Side of Retirement Readiness
Do you see yourself enjoying endless days of reading, yoga, gardening, and golf? As you daydream about retirement, give serious thought to the activities that interest you. What hobbies would you like to begin or re-start? Are you going to travel extensively in your first years of retirement when you have the energy and stamina to do so? Which organizations inspire you?
Or, would you like to continue working in some way, not just because of the income, but for the sense of contribution it provides to you. For some, retirement is their exit-plan from an unpleasant job. I caution clients to honestly assess whether they are looking at retirement as an escape hatch from their current situation or if they would simply like to reconfigure what work looks like, even if making a job change comes with a reduction in pay. I’ve seen future retirees who are simply not cut out for retirement. They like the fast pace, the interaction, the sense of purpose and responsibility that comes with a job. If this sounds like you, the answer to when you should retire is “later.” Or it could be “never.”
The Best-Laid Plans…
You can’t always plan out your retirement date just the way you want to. Sometimes life has something else in mind. If you have a plan in place, you’ll know what items need to be adjusted if your retirement date shifts (often due to health reasons, corporate restructuring, or the economy). I’ve seen this occur many times. Clients Kara and Greg are a good example. They ran a small business and were thinking of selling it. When we put together their retirement plan, they realized the amount they could safely withdraw was not enough to support their desired retirement lifestyle. They rallied and focused on building the business. A few years later, Greg passed away, rather unexpectedly. Because we had a framework in place, Kara was able to evaluate her options fairly quickly. She couldn’t run the business on her own, so she located a buyer, sold the business, and went to work part-time for a former employer doing something she enjoyed. The decisions were stressful, but the stress was minimized because she and her husband had taken the time to do the planning. She was emotionally and intellectually equipped to shift plans.
Fundamentally, retirement is about the alignment of two things: money and values. When anxiety about the money is foremost, we neglect the values side. With a sound plan to handle the financial side, it frees up your energy to focus on the values side. Then, you’ll be well-positioned to live the life you want to live, with little anxiety. That is indeed something to strive for.
To learn more about how to make a rock-solid plan to transition out of the workforce, read our CEO’s 5-star rated book Control Your Retirement Destiny.