This article will look at your retirement plans in order to answer the question, how much to save for retirement? There are several different ways to calculate this number, and of course the value will vary from person to person depending on their circumstances. But, to give you a ballpark number, for most retirees if you have around $500,000 at age 65, and have a home paid for and no debt, you should be able to have a comfortable if modest retirement, and you will be much better off than the majority of other retired people. If you want an above average or deluxe retirement you will need more savings.
Traditionally methods for determining retirement income focused on the percentage of your current income you should be saving, for example 10 or 15%. This may work well if you are still younger, but younger people usually do not save for retirement as they have other priorities. I prefer to look at what a realistic amount of retirement capital is, for example $500,000 at age 65. Once you know what your number is, you can fairly easily calculate how much you need to be accumulating per year to reach it. So what is your number for the amount of capital required? There are some retirement calculator tools here to help you out. Once you know the amount of capital you need, it is straight forward to determine how much you need to be saving per year to reach that goal. I will show an example.
You can calculate a capital amount based on the percent of your pre-retirement income you want in retirement. People realistically need a retirement amount between 50% and 80% of their pre-retirement income. The thing to remember is that in retirement you won’t be making mortgage payments, payments for your kid’s education, saving for your own retirement, or transporting yourself back and forth to work. On the other hand you will have a lot more leisure time when you will have the opportunity to spend money, and health problems or living considerably past your life expectancy can throw a bit of a monkey wrench into retirement plans.
Most people actually retire with 50% to 60% of their pre-retirement income in retirement. The good news is that government pension plans can really help you out. The average Canadian retired couple get about $22,000 per year from their government programs, and this can be as high as $32,000 depending on how long they worked, and how much they contributed. Also these plans are currently well funded so there should not be a problem on counting on them being there going forward. Therefore in calculating your retirement income needs you can decrease the amount of savings needed to allow for CPP and OAS. So if you needed $70,000 per year to retire, and are going to receive $30,000 in government benefits, then you need enough capital to fund (70,000 – 30,000) $40,000 of annual income. One rule of thumb is to multiply your required income by 25. This will give you enough money to live a long life, and be able to adjust for inflation. So in this example you would need capital at age 65 of $1,000,000 (25 x 40,000). If you plan to retire earlier than 65, you would need more money to bridge the extra years of retirement.
Unfortunately, most people do not retire with $500,000 or $1,000,000 in assets plus a paid for home. Although most Canadians do manage to retire debt free, their average retirement assets are closer to $100,000 and it is a small percentage of retirees that have $500,000 or more. This means many retirees will be relying mostly on government benefits like CPP and OAS to fund their retirement, and might receive only 25% of their pre retirement income. Somehow they will still make it through retirement as people are still going to get older, but they may live in uncomfortable subsidized housing, and be in trouble if health problems develop that are not covered by the government. More and more seniors are ending up at food banks.
That is not the retirement I would choose, and I believe most people would not willingly choose, other than they choose by not planning. Retirement plans are especially critical for business owners as we often do not have a pension plan, and our income and expenses are variable year from year. That makes trying to put a certain percent away per year of our income unpredictable. Many business owners have a considerable gap to close in their later years to have the retirement they want because much of their earlier income went into building their business, in addition to all their family obligations. Therefore they are better off with an estimate of how much capital they will need at retirement, as business owners often have higher incomes in their later years and are able to acquire the amount of capital required.
The amount of money needed for retirement will always be an estimate. That is because there are many factors involved we can only guess at, such as what our rate of return will be, what the rate of inflation will be, how long we will live, what our health will be and other factors. Because the amount we will need for retirement cannot be determined with certainty, keeping up one’s work skills close to and into retirement is a good idea. After all there are only two sources of money – people working, or money working for you. Having the ability to work part time or have some source of income can help stretch one’s retirement funds and more and more people are planning or retiring later than age 65.
As a financial planner I do retirement plans for clients on a regular basis. I use a realistic approach to retirement planning, rather than a theoretical one which says you have to hit this particular number by this date if you want to retire. If you would like to discuss your retirement situation with me I would be happy to do so and you can get in touch with me through my blog. We can also discuss the investment process we use to set up a realistic retirement plan for business owners and other individuals.