New analysis, by the Center for Retirement Research at Boston College, gives investors a clearer idea of the rates needed to fund their retirement years. “One of the major challenges facing Americans today is how to prepare for a secure retirement.” according to the report introduction.
Note that I use the more sophisticated approach, mentioned in the reports Endnote 8, where I estimate your actual “target replacement rate,” by estimating your Retirement Standard of Individual Living (SOIL) which attempts to sustain your Standard of Living you have today into, and through, retirement.
How much money does a typical worker need to save every month in order to have a reasonable chance of financing a secure retirement? New analysis from the Center for Retirement Research at Boston College (CRR) came up with a broad overview of the rates needed by different age groups and income levels.
To estimate necessary savings rates, the researchers first sought to determine what level of retirement income would provide an equivalent standard of living to a retiree’s final year of pre-retirement income. After they took account of changes in various tax burdens, commuting expenses, housing costs, and other factors, they estimated that a single worker earning $20,000 prior to retirement (the CRR study’s “low” income) would need about $17,600 afterwards, including Social Security benefits calculated according to the current formula. Someone earning $50,000 (“medium” income) would need about $40,000 after retirement, and someone earning $90,000 (“high” income) would need about $73,000. Both of those estimates also assume the current levels of Social Security benefits.
Here’s how the projected savings rates work out for a consumer at each level, assuming a normal retirement age (67) and an average annual investment return of 4% after inflation is take into account:
- A low income retirement saver would need to set aside 8% of income each year starting at age 25. If the same person were to wait until age 35 to start, the rate would go up to 12% of income per year. If the same person were to wait until age 45, the necessary savings rate would rise to 20% per year.
- A medium income retirement saver starting at age 25 would need to set aside 12% per year. Waiting to start until age 35 to start the savings program boosts the rate to 18%. Waiting until 45 pushes it 31%.
- A high earnings saver would have to set aside 16% per year starting at age 25. If he or she waited to start until age 35, the rate would increase to 25%. Waiting until 45 causes the required savings rate to rise to 42%.
Keep in mind that if Social Security were to be cut back, savings rates would have to be increased proportionately to cover any reductions in anticipated benefits. Also keep in mind that if real investment returns average higher than 4% in the future, the amount of savings can be reduced somewhat. But the researchers noted that “… the effect of the rate of return on required saving rates, for workers at all earnings levels, is smaller than the effect of the age at which saving starts and, especially, the age of retirement.” In other words, starting your savings program earlier and then working longer could have the greatest impacts on your financial readiness for retirement.
Click here to see the CRR analysis and view the recommended savings rates for your situation.
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March 2012 — This column is provided through the Financial Planning Association, the membership organization for the financial planning community, and is brought to you by Larry R Frank Sr., MBA, CFP®, a local member of FPA.