Most people don’t have any idea how much they are going to need in retirement. It is an important question because your life changes the day you retire. You no longer have a salary that will pay your bills, and suddenly you are on your own.
At this point, you must know if what you have saved will be enough to live comfortably for the next 20 or 30 years. If the nest egg you have accumulated is too small, you might outlive your money.
When you calculate how much you need for retirement, you should match your retirement income to your expenses. For most people, it is easy to calculate retirement income especially for Social Security benefits. While it is harder to estimate your future expenses because expenses will vary depending on your lifestyle.
Until you have a good idea of what your retirement expenses will be and how they match to income, you cannot get a real number of how much nest egg you need for a comfortable retirement.
This article will help you get a better idea of how to calculate your nest egg so you can retire comfortably.
Step 1. Income
Do you know how much you have accumulated in savings and investments to quit your job and live a comfortable retirement?
Unfortunately, people tend to have a vague idea about their retirement income sources and overestimate how long their savings last.
The main sources of your retirement income will be:
Social Security. It is a proven fact that for many people Social Security is the main source of income in retirement. The average Social Security benefit in 2022 was only $1,550. Most people would find it tough to live on that paycheck alone.
If you do not know your number, just go to the Social Security Estimator to find out your number depending on the age you start collecting.
Pension. If you are lucky, a pension can be an enormous benefit because it produces predictable income from your employer.
Retirement accounts. Your 401(k), IRA, Roth IRAs, investments, and bank savings will generate income for you depending on how much you have saved.
Employment. If you choose to work in retirement, full or part-time, you can significantly increase your income number. A part-time job can make your retirement more comfortable if you did not save enough money.
Annuity. Many people are less worried about running out of money in retirement if they have a guaranteed lifetime income. You can turn some of your savings into lifetime income with an annuity. When you buy an annuity, you are exchanging a lump sum of money for a guaranteed lifetime income.
Should You Have an Annuity in Your Retirement Plan?
By the time you are 65, it will be hard to affect most of your income sources besides your job income. If your nest egg is small, you can keep working full-time, find a part-time job, or start a side hustle like Airbnb, blogging, etc.
Step 2. Expenses
Once you calculate your retirement income, you need to estimate your retirement expenses which will typically include fixed and variable expenses.
Look at how you spend your money today. Then take a piece of paper and divide every expense into categories (or buckets) which will allow you to see the big picture. At the end of the month, look at your categories and see how much you spend on each:
- Housing (mortgage/rent, maintenance, property tax, property insurance, home improvement)
- Utilities (gas, water, electricity)
- Vehicle (insurance, maintenance, fuel, car loan)
- Food (groceries, dining out)
- Healthcare (out-of-pocket expenses, dental, eye exams, and glasses)
- Insurance (health, life, liability)
- Personal (clothes, education, personal debt, gym membership)
- Entertainment (travel, cable, internet, books, memberships)
Keep in mind that your expenses will change in retirement. You have probably heard that you should plan to live on just 80% of your current spending after you stop working. But writing every expense now will help you have a better idea of what you will need in retirement and what you can cut out.
Once you know your sources of income and expenses, you can determine your nest egg number. The final number will be different for everyone. It depends on how old you are when you retire, how long you will live, and how well your investment portfolio will perform.
However, people tend to underestimate how long they live and what their medical costs will be. Also, people forget about unexpected expenses like car repairs, roof and furnace replacements, or financial help to family members.
Step 3. Compare your retirement income to expenses.
You have to have a good idea of what your retirement expenses will be and how they compare to your retirement income.
Consider yourself lucky if your retirement income sources are enough to cover your expenses when you stop working.
Unfortunately, most people’s income sources do not bring it enough to cover their retirement expenses.
Even though many expenses go down in retirement, inflation makes life more expensive for retirees. For most of us, the nest egg number has to be big enough to bring enough income otherwise we need to reduce our spending or adjust our retirement lifestyle.
If your current expenses are less than your income you have enough to retire. But if you do not, you need to figure out how to cover the gap.
For example, after calculating your Social Security, (pension if you are lucky) and a part-time job, your retirement income equals $35,000 a year. Your estimated retirement living expenses are $42,000 per year.
$42,000 – $35,000 = $7.000
The difference is a negative $7,000. This means that you need an additional $7,000 per year to maintain your retirement lifestyle.
How to cover this gap? The withdrawals from your nest egg should cover this shortfall. If you use the popular 4% withdrawal rule, you need to have at least $175,000 in retirement savings to cover the gap.
$175,000 x 0.04 = $7,000 a year
Step 4. How much is your nest egg?
How much of a nest egg you need in retirement depends on several factors.
The biggest factor is how much of your retirement income needs to come from that egg. If you have Social Security and a pension, your nest egg will be only used for additional income and big expenses.
But without a pension from your employer, Social Security will provide only a basic level of income. So, your nest egg (retirement savings) would be another source of income.
Ideally, Social Security and other guaranteed income sources should cover basic living expenses. And withdrawals from the nest egg should create enough cash flow to cover your other expenses.
A good starting point for many retirees and pre-retirees will be a well-known rule of thumb – the “4% rule”. According to experts, no matter how much you have saved, a 4% withdrawal rate will let you take money out of your nest egg for 30 years without fear of running out of money.
For example, if you want to get $20,000 per year from your nest egg, the account should be worth at least $500,000 when you retire.
$500,000 x 0.04 = $20,000 a year (1,666 per month)
Luckily, there are a lot of things you can do to fill that gap.
Step 5. Lifestyle
The lifestyle you plan to live will determine how much you need in retirement.
How expensive is your lifestyle? If you are planning to live in an expensive area, have a vacation home, drive nice cars and travel a lot – you will need more than $1 million saved.
But you can live comfortably with almost any budget if you match your expenses to your income. As I said before, it is hard to control income but there are many things you can do to lower your expenses.
Housing will be your biggest budget item. Housing costs as a percentage of spending will remain around 35% on average.
It is important to decide where you are going to live in retirement. If you plan to stay put and “age in place”, you should figure out how much it would cost to make your home senior-friendly. You should think about the costs of remodeling the kitchen, bathroom and stairs, and even maybe moving a master bedroom to the 1st floor.
Aging Friendly Improvements for Every Home Remodeling Project
Also, if your housing expenses are too high you can downsize, sell your house, and rent, or move to a less expensive state.
If you are thinking of downsizing in the next few years, be realistic about what it will cost to buy something else and how much you will get for the sale of your house. Moving expenses and any kind of renovations big or small like new carpets at your new house will take money out of your nest egg.
Start watching real estate listings to get a sense of the market. If you are going to sell your home, start getting it ready for the market to avoid the last-minute rush.
Also, take time to think through what you really want your retirement to be. Do you want a small place where you can stay for up to 6 months and then travel for the rest of the year (my kind of dream scenario)? Would you rather have a bigger house for all of the family gatherings and for your kids and grandkids to visit?
You also need to plan for the unexpected. Many events typically come out of the blue. For example, you might have to start supporting a parent or a child, or some medical procedure needs to be covered out-of-pocket.
How Much a Nest Egg Is Enough to Retire Comfortably?
The answer is it all depends on your age, your goals, and your dreams.
The truth is that nobody can predict the future. If you want to retire in your 50s you will need to have a nest egg saved much bigger than if you want to retire in your 60s. And if you’re waiting to retire at 70, your number will be even smaller.
Look at your numbers, calculate your current cost of living and create a spending plan for the future. Then compare it to your retirement income based on different retirement age scenarios. It might take some time and hard work to get there. But knowing that you have enough money to live the life of your dream is incredibly satisfying.
Have you saved enough for a comfortable retirement?
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