This is a guest post from Pauline of InvestmentZen.com
Have you ever sat down and worked out how much you are going to need to live comfortably in retirement? Like, an exact figure, that would cover your current expenses, plus health bills, and long term care should you need it? Many people I talk to have a figure in mind, generally a million dollars, but when I dig a bit deeper as to why a million is the number they need to keep their current lifestyle, the answer is often about becoming a millionaire, living the dream, and little more.
Well, I have bad news. A million today doesn’t buy you as much as it used to. And we better be talking about a million in cash invested in a brokerage account, and not a million dollar net worth, $700,000 of which are in house equity. Assuming a safe withdrawal rate of 4%, in order to keep your nest egg intact for as long as you may need it, $1,000,000 will allow you to withdraw $40,000 every year. Not exactly a millionaire’s allowance. At just over $3,300 per month, I really hope you stay healthy for a long time and find a ton of cheap hobbies.
So you will have to forgive me, but I am not done with ruining your millionaire dream. A million today and a million tomorrow are two very different things. $3,300 thirty years from now is equivalent in today’s dollars to… $1,820, after you take into account a 2% annual rate of inflation. Let’s hope your mortgage will be paid by the time you retire!
What can we learn from that example? That a million won’t cut it if you want to live a good life in retirement. Sure, there will be expenses you won’t have anymore, like your mortgage, and hopefully other loans and debt repayments. Depending on where you live, you might enjoy senior citizen discounts on an array of activities, and public services like a bus pass or library card. But all that is pretty small in comparison to your health insurance premiums going through the roof, and the cost of an assisted living facility if you need one. You will need more than you currently live on.
Since a million won’t cut it, let’s shoot for two. A more manageable $80,000 yearly income should leave room to enjoy life and sleep better at night.
Assuming an annual rate of return of 8% over the next 35 years, you will have to save and invest $900 each month to retire with $2,000,000.
If you are already in your mid 30s or early 40s, you will need to save $1,800 per month to retire in 27 years with $2,000,000.
A rate of 8% is achievable if you invest in index funds through a robo-advisor or a similar low fee broker. The S&P500 has returned a little more than that over the past 30 years. That is not a guarantee of future returns, but one thing is sure, reaching a $2 million net worth compounding on a 1% savings account will be much, much harder.
Finding $900 each and every month to save and invest is already hard enough. Let alone $1,800 if you didn’t start saving early. A few things to make it easier are:
- Getting your company match on your investment contributions. That is an instant 100% return and shouldn’t be missed.
- Taking advantage of tax free and tax deferred retirement accounts. Investing pre-tax gives you another discount on your investments.
- Looking into ways to make more money. If you make $1,000, saving $900 is impossible. Try to hustle on the side, pick up an extra shift at work, and use that money to invest.
- Looking for sources of passive income. Investing in a rental property can be an interesting ways of investing. Your tenants pay off your mortgage over the next 30 years, and you retire to a paid property and some rent money. It is not as easy or simple though, and you want to crunch the numbers carefully before you invest. If in doubt, stick to index funds.
Saving a million dollars for retirement will put you in a much better place than a vast majority of Americans. But, if you really want to be comfortable, you should aim for at least two million. Start as soon as possible, invest all the money you won’t need in the next few years, to allow for market swings and avoid exiting at a loss, and keep investing month after month. Once you get rolling, it gets much easier. In my $900 example, it takes 27 years to save the first million, and just 8 years to save the second. A small effort of just a few more years for a big difference on your nest egg.