4 Steps to Estimate How Much You'll Need to Retire

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Everyone has a different picture of what retirement will look like. That means the amount of money you'll need to retire can be much more, or far less, than others your age. What you want to do is to come up with a personal estimate.

You start by calculating the amount of money you'll want to spend each month. This is the most important step you can take. If you want to spend more in retirement, obviously, you'll need to have more saved. Also, your retirement age will also have a big impact on how much you'll need. If you want to retire early you'll need far more saved than someone who plans on working longer.

The four steps below will help you come with your own estimate of how much money you'll need to retire. 

1. Estimate Retirement Expenses

Your first step is to estimate your retirement expenses; how much you think you will spend each year in retirement, including an estimate of taxes you will pay on retirement income. One easy way to start is by looking at your current take-home pay. Assuming you spend your take-home pay each month, that is a good starting estimate to use as far as what monthly amount you'll need in retirement. Then look at what you spend it on. Some items may change once you retired. For example, dry cleaning may go down, but travel may go up.

 Be sure to avoid common retirement budget mistakes, such as forgetting about items that don't occur regularly like major home repairs, annual insurance premiums, or periodic dental work that may be needed.

2. Figure Out How Much Income Will Come From Guaranteed Sources

It will be important for you to figure out how much retirement income you will have from guaranteed sources. That includes income sources like pensions, Social Security, and monthly annuity payments that you may receive. The more guaranteed income you have, the less other savings you'll need. You will then compare this income to your estimated retirement expenses. Ideally at least half of your estimated retirement expenses are covered by guaranteed income by the time you reach age 70. If that isn't the case, you may want to consider buying an annuity to provide additional guaranteed monthly income.

3. Calculate the Gap

The third step you'll take is calculating the gap between retirement expenses and guaranteed sources of retirement income. If you have $50,000 of estimated annual retirement expenses and $30,000 of guaranteed income, your gap is $20,000. This gap represents the annual amount that you will need to withdraw from your own savings and investments each year. If you lay the numbers out in a timeline format you'll be able to see the withdrawal needed for each year. Then add up each year's gap over your expected retirement years to create an estimate of how much you'll need to have saved to be adequately prepared for retirement.


4. Factor in Inflation and Life Expectancy

Variables like your rate of return on investments, life expectancy, inflation, and your willingness to spend principal will all have a big impact on the amount of money you will need to retire. To account for these variables you will want to develop both a best and worst case scenario. A best case would assume average to above average returns on investment, average life expectancy, and low inflation. A worst-case scenario assumes below average returns, above average life expectancy and high inflation.

If your retirement only works if you get a best-case outcome you need to figure out a different path. Perhaps you'll need to work longer, save more, or spend a little less in retirement to get your plan on solid ground. 

If you are not a math person, calculating out what you'll need to retire may seem overwhelming. Be patient with yourself and work through it. If you need professional help, look for a good retirement planner. Most likely, you only retire once. You'll feel much better once you have spent the time planning for it.