People Are Way Off on Predicting How Much They Need for Retirement — Are You?
The further out you are from retirement, the more difficult it may seem to figure out exactly how much you’ll need when that magic day comes. Younger people might not even be thinking about retirement, though they should, because the more time you have to invest, the more money you’ll have to live comfortably in your golden years.
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Yet whether you’re decades away or less than a few years, according to a recent Northwestern Mutual Planning and Progress Study, which deals with people’s financial attitudes, most Americans are off on predicting how much they’ll need in retirement.
Do you fall into this camp too? Experts offer some tips.
The Gap Between Needs and Reality
The gap between what people need and what they think they need is significant, said Spencer T. Hakimian, founder of the hedge fund Tolou Capital Management, L.P.
“Many Americans underestimate the impact of inflation, longer life expectancies, and the rising costs of healthcare,” he said.
He mentioned a survey done by the Employee Benefit Research Institute, which found that while many workers believe they need around $500,000 for retirement, experts often recommend a minimum of $1 million, depending on lifestyle and healthcare needs.
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Consider This Formula
Hakimian said that the usual recommendation for a retirement fund is one that can replace 70%-80% of your pre-retirement income.
“This rule of thumb considers that some expenses, such as commuting costs or mortgage payments, may decrease in retirement, while others, like healthcare, may increase. By using this formula, a person earning $75,000 annually would ideally need a retirement fund that can provide approximately $52,500 to $60,000 per year.”
Hakimian said this can be achieved by saving 10%-15% of their income annually, starting as early as possible.
Another Approach
Michael Ashley, a finance advisor and founder of Richiest.com, suggested a slightly different formula:
By age 30, you should have saved 1x your annual income
3x by 40
6x by 50
8x by 60
10x by 67
So, if you earn $75,000 annually, you’d need $750,000 by retirement by this formula, he said.
“However, data shows average 401(k) balances are far below these targets,” Ashley said. “Gen X, for example, has an average of $178,500 saved but ideally needs $300,000 to $600,000. This gap is often due to underestimating future needs, inflation, and rising healthcare costs.”
To bridge this gap, he recommended maximizing retirement plan contributions, increasing savings rates gradually, ensuring proper investment growth and automating savings to stay on track.
Financial Education Is Key
This disparity between what people think they need and what they actually have saved highlights the importance of financial literacy and planning, Hakimian said. Finding out you have a shortfall is a lot better when you’re younger, as well.
“For instance, millennials and Gen Z should be particularly aware of the benefits of compound interest and start saving early, while Gen X and baby boomers need to focus on catching up and maximizing their contributions,” Hakimian said.
Addressing this knowledge gap requires comprehensive financial education and personalized planning, he said.
Utilize Multiple Strategies
There are many tools and strategies people can use to prepare, from employer-sponsored retirement plans to maximizing Social Security benefits, Hakimian said. You may also want to consider other income streams like part-time work or annuities, which can contribute to a more secure and comfortable retirement.
Financial planners play a crucial role in helping you determine how much you need by offering tailored advice that considers individual circumstances such as age, income, health and retirement goals.
“Encouraging regular financial check-ups and adjustments to savings strategies can help individuals stay on track,” Hakimian said.
Most importantly, don’t put off retirement planning for “someday” only to find yourself there with a shortfall.
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This article originally appeared on GOBankingRates.com: People Are Way Off on Predicting How Much They Need for Retirement — Are You?
