A Shocking Number of Americans Skip This Important Retirement Planning Step
Key Points
Saving regularly for retirement is important, but it's not the only thing that matters.
You also need a retirement savings target to aim for so you don't wind up saving too little.
One strategy for calculating a target involves saving 25 times your estimated annual out-of-pocket expenses in retirement.
- The $23,760 Social Security bonus most retirees completely overlook ›
Ask people what the most important thing you can do to improve your retirement readiness is, and you'll probably get some answer related to saving: Start early. Claim your 401(k) match. Make regular retirement contributions each pay period.
That's all good advice, but if it's all you're focused on, there's a chance you could still wind up off track. There's another important step you should take as soon as possible to increase your odds of retiring comfortably, and most people skip it.
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You need to estimate your expenses
While regular retirement contributions are important, you also want to make sure you're saving enough for your goals. And to do that, you need to have some idea of how much you expect to spend in retirement.
This is tricky because there are so many unknowns. You don't know how long you'll live or how your expenses might change. You don't know what emergencies could arise in the future. So pinning down an exact number is impossible. You can get a close approximation, though.
The Motley Fool's research on Americans' retirement readiness reveals that most people don't make it that far. FINRA statistics cited in the report indicate that 55% of Americans have never tried to figure out how much they need to save for retirement. This could put them at risk of saving less than they need.
How to figure out how much you need to save for retirement
There are different methods you can use to estimate how much you need to save for retirement. One of the most popular is the 4% rule. This says you can withdraw 4% of your invested savings in your first year of retirement. Then, you adjust this amount annually to keep up with inflation.
To start, you calculate how much of your annual retirement expenses you expect to pay out of pocket. For example, if you expect to spend $70,000 annually and you think you'll get $30,000 from Social Security, you'd need to cover the remaining $40,000 on your own.
Then multiply that amount by 25. Continuing our example above, that would give you a $1 million savings target ($40,000 x 25). This is the minimum you'd want to have before you retire.
It's worth setting your goal, even if you're far from retirement, so you can adjust your contribution rate as needed. Many retirement calculators can help you get an idea of how quickly your existing savings will grow and how much you should set aside per pay period to reach your target.
Keep an eye on your progress, and update your retirement savings strategy as necessary. It's OK to change your retirement date or how much you plan to save, as long as you update your savings plan accordingly.
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