How Much Money Do You Need To Retire?

This is a question I get asked frequently.  Up until now, I've never felt qualified to make a recommendation on this question.  Not because I didn't have an opinion (no one could ever accuse me of not having an opinion), but because I was having trouble conceiving of a coherent explanation.  Recently, a reader emailed me this very question and I proceeded to write her a very convoluted response (sorry Denise!)  It turns out, I've been making this much harder than it needs to be.

For the last 20 years, I have been playing with on-line retirement calculators, packaged retirement software, and even designed my own VERY complicated retirement spreadsheet.  All to come up with an answer that OTHERS HAVE ALREADY FIGURED OUT.  I didn't need to recreate the wheel here.

 

Jacob at Early Retirement Extreme recently posted two excellent posts on this topic.  One of his commenters, Dividend Growth Investor, recommended a great article about this very issue (Determining Withdrawal Rates Using Historical Data).

 

I was an Economics major in college, and followed that with a 22 year tax/finance career, so I found the article fascinating.  I understand, though, that most normal people won't, so let me give you the punch line:

 

1. Figure out how much your annual retirement expenses will be, and
2. Multiply this number by a number between 25 and 33, depending on your age (more on this below).  That's how much money you will need to have saved to have a worry-free retirement. 

According to this article, the historical averages for stocks, bonds, and inflation over the last 80 years were 10.3%, 5.1% and 3%, respectively.  But I am not really interested in what happened over 80 years; what we really need to know is what happens over 30, 40, or 50 years, specifically the years of our retirement.

 

The next best thing to a crystal ball is what author, William Bengen, achieved with in this article.  He studied each and every chunk of time within that 80-year time period to come up with some safe guidelines under which a retiree during ANY of the historical 30, 40, or 50 year periods would have weathered the storms successfully.  (And this period included some pretty serious storms, even the 1929 stock market crash.)  What he found:

• The "absolutely safe" initial withdrawal rate is 3%.  (The initial withdrawal "rate" is the percentage of your portfolio that you can take out the first year for living expenses.  Every year after that, you would take out that that dollar amount, increased for inflation.)  There was no historical 50-year period where you would have outlived your money using a 3% withdrawal rate.
• A 4% withdrawal rate could very likely carry you through 50 years.  Historically, there would have been no period where it would not have lasted at least 33 years. 

What does this mean to you?  How can you translate this into something simple for retirement planning:

• If you want to retire in your 40's (with potentially 50 retirement years out in front of you), you will be extremely safe if you have accumulated 33 times your annual expense budget. 
• If you want to retire in your 60's (with potentially 30-something years in your retirement), you will be extremely safe if you have accumulated 25 times your annual expense budget. 
• (For retirees in their 40's to 60's the extremely safe number is somewhere in between.) 

The even better news is that over most historical periods, the 4% rate (25 times your expenses) would have been safe enough, even for 50 years.  If you  are very young and you want to retire, you could always use this approach, and then, if you get into trouble, tighten your belt for a few years, or pick up a fun part-time job.  You have options that could put you right back on track.

 

All of this data is based on having a portfolio which includes at least 50% stocks (the rest in bonds).  If you have the stomach for it, 75% stocks works even better and doesn't subject you to that much more long-term risk.  History shows that any portfolio with less than 50% stocks would not have carried you through a long life in retirement. 

 

So, for those of you that have recently retired, and like me are getting the jitters from today's stock market, DON'T PANIC.  Do not, under any circumstances start selling off the stock portion of your portfolio!  According to the historical data, if you had done this in past market downturns, you would not have had enough money to get you through the rest of your life.  Those that kept a cool head, and those that even upped their stock holdings during those times are the ones that came out ahead.

 

Be sure to read:  The Scary Impact of Inflation on Your Retirement Budget

Related Posts:

Retirement Into a Down Market

 

Retirement Into a Down Market-Part II

 

Retirement and the "B" Word

 

 

Comments

[Shane]

Love your blog. Curious if you'd detail where you have saved money over the years. Not which stocks or funds, but more about how to save money strategically outside of tax-deferred vehicles like 401s and the like. Most tips seem to be about maxing those out but you're many years away from touching them and I would love to hear more about where you put money that you can access in the hear and now.

[Early Retirement Extreme]

Generally the same places as 401k and IRAs. Just don't tick the IRA/401k option on the application. Personally, I have a few mutual funds in taxable accounts (HSGFX and DODFX are my main positions). I got most other savings invested in 15 different stocks with an online broker (scottrade). My cash position is very small relatively speaking (probably around 5%).

[Rosie]

Great post! This is such a helpful expansion on the great discussion over at ERE. Thanks Syd!

[Retired Syd]

@Shane I agree with Jacob at ERE that I didn't really distinguish between my retirement accounts and those that were outside of retirement. I generally followed an overall allocation, without a whole lot of thought of which accounts to invest with before- or after- tax dollars. (Although, when I had many years to go before retirement, I generally held the bond portion in my retirement accounts so that the ordinary income (higher-tax rate income) was held in tax-deferred accounts.) As I got closer to retirement, I made sure I liquidated some mutual funds (non-retirement accounts) over those years, so that I would have 3 years' living expenses in cash when I retired.

[Sylvia B]

I'm one of those folks who is lucky enough to be retiring on a pension. I'm going to have 60% of my current income to live on. Thing is, lots of folks say that 60% will be more like 75% because I'll be paying less income tax (here in Canada, I'm in a 45% tax bracket ... if you're American, please don't gasp!) but nobody's really able to give me hard numbers so I'm still waiting to see what happens after I retire in October. I am worried a bit but I guess I'll have to figure it out when the time comes.

[HIB]

Great post! I am currently 30 and would like to retire by 40. I have a lot of work to do!
Thanks!
-HIB

[Retired Syd]

@HIB--thanks for stopping by!

[Dan]

Hey Syd,

Your neighbor from down the street. I've done similar calculations but have decided 2% or 2.5% withdrawal rate is more sustainable. (ie, multiple of 50 or 40)

One thing you didn't discuss is the amount of money left after you die -- $0, inflation adjusted starting amount, or something in between.

[Retired Syd]

Hey Dan from down the street! Well I'm assuming zero at the end (and hoping I've calculated the end pretty accurately!) But with two kids, you would probably want something to be left at the end, I suppose!

[Dividend Growth Investor]

The 4% solution is mainly for a 50/50 or 75/25 stock/bond portfolio allocation.

I am a bigger supporter of living off the cashflows from your portfolio. In the current market environment where most stocks yield 3% or more and you could find CD's yielding more than 5%, you could easily create an income stream of at least 4% annually that has a lower risk of decreasing.. Furthermore there is a high chance that your dividend income stream will increase over time, above the rate of inflation

[Sunny]

Nice post! Guess the amount needed for retirement also depend of personal situation. As this time, I could live with 900$ per month after deductions. Currently, my portfolio giving me 288$... I am almost, almost there lol.

[free dental care]

I love your blog! always important issues that very often one wonders, is so thanks!

[Iain H]

Just found your blog - I'm happier now knowing I'm not the only retirement spreadsheet fiend out there! My question is whether the 33x rule accounts for any eventual social security (US-based employment) or state pension (UK-based employment) that would conservatively be available at age 67..?

[Retired Syd]

@lainH (aka spreadsheet fiend): Good question, and I have a good answer. It does not account for other pension receipts. You need 33x your expenses that will NOT be covered by other income sources. As an extreme example, a person that had a pension that covered 100% of their living expenses and that would be adjusted for inflation would not need any further retirement assets (if only such a pension existed!)

You are just looking to amass a nest egg to cover what will not be covered by your social security or other pension payments. 33x the uncovered expenses should be enough. (In my case, I assumed some decrease to our current projected social security benefits as something will probably change before I am eligible to collect in 2031)

[Forex Trading Broker]

I must admit that I myself is a strong supporter of living of the Yieldings, and spending the actual savings only on rare occasions- if ever! You need money to make more money :)

[runescape money making guide]

Kudos to the author!

[Thad]

I read in detail the referenced FPA withdrawal article and find a few holes in the assumptions made here. First off, the article was written in 1994. The "last 80 years" referenced in the article was through a hypothetical "2004" based on the trend through 1992 (you have to carefully read the first page or two to figure this out since the article starts out "hypothetically"). It does not take into account the Great Bull '90s, but it also does not take into account the lost '00 decade.

Also, the 3% or 4% withdrawal rate is based off of the money actually held in the stock/bond ratio accounts and not just total net worth which may have x% in checking and savings accounts. You also have to have the fortitude to do the rebalancing as described in the article as well.

I also dont know if saying a 40-something year old has to only worry about 50 yrs retiring. The life span numbers often quoted ("78" etc) is the MEAN life span which is skewed by childhood deaths. We already have a big bump up of people over 100, let alone in 50 years.

Another thing to keep in mind is that you have a pension, this is usually a fixed amount. If you are living off of savings as well, ALL of the inflation adjustment has to be taken from the savings part so the withdrawal rates have to INCREASE if you truly want the total (pension + savings) to match inflation. I know of no articles that have addressed how that is handling in withdrawal calculations.

I am not saying it can't be done, but the data referenced does not totally support the conclusions made here. I'd recommend reading (and rereading) the original FPA journal article carefully first before solely basing actions off of this data.

[rock]

Who in the heck do you know that has retired in their 40s except for police officers? I still know people in their 70s who work because they never saved a dime. LOL This is amusing, actually. You can spend cash pretty quickly. I know people just starting their families in their 40s. It's just not normal to retire in your 40s. More like lazy. You should be doing something to make this world a better place. How about volunteering if you have all that money? Nobody should be sitting around retired when they are in their 40s. The reason people retire is because they physically can't work. You should do something with your life.

[Retired Syd]

@rock: Well that would, indeed be a sorry state, for a retiree to be "sitting around" whether they were 40 or 70! Just because you don't get a paycheck anymore does not mean you can't go out and change the world if you want--in fact retired you have more time to do just that!

How sad to view retirees as good-for-nothing. So many are making a difference in their communities, helping their families, and enjoying their well-deserved happiness.

It sounds like you must love your job, though, congratulations, you are very fortunate. Whatever makes you happy, that's exactly what you should be doing.

[Chad]

@rock
And, those who can only find "purpose" in work are lazy in the mind. Most workers aren't necessarily doing something with their life, as most workers aren't really producing anything of value.