How to Tell if You are Saving Enough for Retirement

By | March 4, 2017

We all know we should be saving for the future. But for a substantial portion of the population, deferred gratification and building financial independence is difficult to practice. Setting a retirement savings goal can help motivate you to save every month. Making progress toward your goal will also give you a sense of accomplishment along the way. Here’s how to tell if you are saving enough for retirement:

Multiply your income by 25. This calculation is effective for those who are at least 15 years away from retirement. You’re likely to get a large number. Using this strategy a worker who earns $50,000 would need to save $1.25 million for retirement. You can use this retirement goal to determine how much you need to save annually, quarterly or monthly to reach your goal. The underlying assumption that makes this calculation effective is that you will use a conservative 4 percent annual withdrawal rate in retirement.

Multiply your estimated annual living expenses by 25. This formula should result in a lower number than the previous calculation based on income. If you have paid off your mortgage and other debts and think you can get by on $30,000 per year in retirement, this produces a savings target of $750,000. This calculation is more appropriate for individuals who are within 15 years of retirement. Hitting the goal is also more urgent because you will need to live off these retirement assets fairly soon. Since the goal of this calculation is to isolate how much is needed from financial assets to fund retirement expenses, you can subtract guaranteed income streams such as pension payments and Social Security benefits from the annual expense figure.

Turn the retirement number into a periodic savings plan. Determining your retirement number is only the beginning of preparing for the future. Next you need to determine how much saving is required to reach that goal. Fortunately, there are plenty of online calculators that can help you do the math. For example, Fidelity’s contribution calculator allows you to use simple data inputs such as your salary, current savings rate and the value of your current investments to determine how much you will have in the future. You can also see what would happen if you increased your contributions as a percentage of your income. When you use this calculator, you will notice you can adjust the assumed rate of return. It’s a good idea to do your initial calculation using a conservative growth rate of 6 percent.

Plan for stock market fluctuations. Of course, no one actually earns 6 percent on their investments every single year. Your returns will fluctuate. So, take a look at what happens to your goals if you increase the rates of return to 8 percent or higher. It is equally informative to reduce the assumed rate of return to below 6 percent to stress-test your savings goals and see what will happen if we enter a period of under-performance. Planning tools allow you to face the worst case scenario on paper and take steps to ensure that you are as safe and diversified as necessary in case an actual negative event comes into your life.

A number of pitfalls can be avoided if you have the right set of tools to provide you with a better view of how well you are doing in saving for the long-term. Fortunately, there are savings benchmarks and tools that can help you determine what healthy financial success should look like. Remember to set periodic savings goals, either monthly, quarterly or annually, so you can track your progress along the way and make any necessary adjustments.

 

This article was written by U.S. News Staff. View full article here.

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