Retirement – it’s something that most of us are planning at some point in our future. But while the idea of never having to work again is enticing, getting there can be a real challenge. After all, making sure you have enough money week-to-week is hard enough, let alone putting aside enough money every paycheck to start saving for the future. Nevertheless, in 2019 about 85% of Americans have at least some money saved for retirement^{1}. So, for the hundreds of millions of Americans who are savings for their retirement every year, a fundamental question has to be asked: How long will your retirement savings last?
When trying to figure this out, there are several factors to consider. How much money will you have when you retire? What will your retirement income be like? What will your expenses in retirement be like? While these questions may seem simple, answering them can be a challenge.
How much money will you have when you retire?
When first attempting to determine how long will your retirement savings last, it’s important to analyze how much you will have when you retire. This first question is potentially the hardest to answer, because you have to predict both how much you will be able to save every year and what kind of investment returns you will get on your portfolio.
To forecast investment returns, most people use the long-term average return of each asset class to estimate their future returns. In general, stocks can conservatively be expected to return about 7% – 8% each year and bonds about 5% – 6%^{2}.For this article, we will only focus on investing in stocks and bonds for simplicity’s sake – we will not examine the risk-return profile of alternative assets like real estate or private businesses. Once you know the mix of stocks and bonds you want, you then need to forecast your portfolio value out to when you plan to retire.
To demonstrate how you can estimate how much you will have saved when you retire, let’s follow the case of Jason Smith – an entirely fictional character. Let’s say that he is 50 years old, has already saved $115,000 in his 401(k), saves $10,000 a year in his 401(k), and plans to retire at the age of 65. Let’s also say he has a portfolio that is 50% stocks and 50% bonds.
First, let’s calculate the average annual return on Jason’s portfolio. For this example, we are being conservative in our return estimates. We assume:
(50% stocks * 7% annual return) + (50% bonds * 5% annual return) = 3.5% + 2.5% = 6% annual return
Now, let’s review how to calculate Jason’s portfolio value in 15 years, at which time he will retire. The basic compounding interest formula for a portfolio’s future value is:
Initial Portfolio Value * (1+r)^n + Σ Annual Contribution * (1 + r)^n
Of course, that’s not a very useful formula for anyone without a degree in statistics. So, let’s break it down. Jason already has $115,000 saved, and this money will grow at about 6% for 15 years. So:
$115,000 * 1.06^15 = $275,604.19
Next, let’s see how much his continued investments of $10,000 per year will grow. His first contribution of $10,000 will have 15 years to grow, so we use the same formula:
$10,000 * 1.06^15 = $23,965.58
His second contribution, which he will make when he is 51, will have only 14 years to grow. So:
$10,000 * 1.06^14 = $22,609.04
We continue this trend for all of his contributions, and we find that Jason will have about $520,000 when he retires. You can use the same calculations when estimating how much money you will have when you retire. Of course, you can also use the Future Value formula in Excel. We have provided a table of the full calculations for Jason’s portfolio, as well as the Excel formula explanation, in the ‘Additional Resources’ section.
What income will you have during retirement?
Once you know about how much money you will have saved when you retire, the next question to answer is how much income you will still have during your retirement. This can include income from several sources: the earnings from your savings, any pensions you may have, and Social Security.
For the first category – earnings from savings – most people only need to consider the interest income on their investments. (Some people may also need to take into account alternative investments such as income from rental properties they may own, but we will not consider alternative incomes in this article.) It is important to note that earnings on savings is only the amount by which your savings grow each year. In other words, you should not include any principal amount – the money you had when you retired.
To continue our example with Jason Smith, if we still assume that he will make about 6% on his investments each year, then his interest income will be:
$520,000 * 6% = $31,200
So, Jason can spend about $31,000 each year from his 401(k) without eating into his principal amount.
Next, you should consider any pension income you will receive. This will vary from person to person, based on your age and length of employment with your company. Most pensions will tell you how much you will receive each month/year. However, it is very important to remember that not all pension funds are fully funded. In other words, your pension may not have enough money to pay you everything you were promised. For example, the New Jersey state pension fund is less than 40% funded. This means they can only pay $0.40 for every $1 they promised^{3}. If you are expecting a pension income in your retirement, make sure to research the funding status of your fund before you retire. If your pension is severely underfunded, it is better to go ahead and assume your pension will be reduced in the future.
Lastly, you should estimate how much you will receive from Social Security. You can get an estimate from the Social Security Administration by using their online calculator. However, just like with many pensions, you may not receive all your promised Social Security benefits. If you are retiring after 2037, you may only receive 75% of your expected amount. For more details, see the official Social Security website.
And there is one more very important thing – taxes! Yes, both investment income (with the exception of income from post-tax Roth accounts and some other special cases) and pension income is taxed. Social security income tax is variable depending on your specific circumstances – learn more here. If you are not sure what your tax rate will be during retirement, better to round up than down.
Next, let’s consider what expenses to account for in retirement.
What will your retirement expenses be like?
For most people, their expenses don’t change all that much in retirement. After all, most of us stay in the same home and generally keep the same habits. So, it’s usually safe to assume that your month-to-month expenses in retirement will be about the same. However, there are several important non-routine expenses that must be considered.
First, as you grow older your medical costs will increase, sometimes drastically. Medicare/Medicaid may help cover a good amount of these expenses, but you should make sure to check how much these plans cover given your medical history, the medicines you take, etc.
You should also make sure to account for any lifestyle changes that you want to make in retirement. Maybe you want to travel or move to another city to be near your family. Whatever your plans, just make sure to figure out how much they will cost you.
Putting it all together
Ok, we’ve gone through the income side and the expense side. So let’s get back to the main question of how long will your retirement savings last and put the pieces together. Once you have estimated your retirement income and expenses, you need to add them together and see if you have a surplus or deficit. So, do you have money left over every month or do you need to use some of your savings? Of course, it’s fine to use your savings in retirement – after all, that’s what your savings are for – but you need to make sure you have enough savings to last for the rest of your life.
To help you out with this, we have provided a table in the ‘Additional Resources’ section that you can use to write down all your income and expenses during retirement. Your income minus your expenses shows how much of your savings you will need to use each month. It is very important to remember that each year you spend some of your savings, the money you will get from investment income will go down.
Continuing our example of Jason Smith, his annual investment income is $31,200. But what if after one year he has spent $51,200 – meaning he has used $20,000 of his principal amount? Then he would only have $500,000 of principal left. In that case, his investment income for the next year would be:
$500,000 * 6% = $30,000
So, the decrease in his principal amount means that his investment income is decreased by $1,200 every year for the rest of his life. If he continues to use his principal amount, he will eventually run out of money. You can do this calculation on your own savings using this online calculator. For Jason, assuming he continues to spend about $51,000 every year, he will run out of money after just 15 years! (Note – for simplicity we are not accounting for taxes, but you absolutely should when doing your calculations.)
So – are you ready for retirement?
After doing all this work, you should have a pretty good idea how long your retirement savings will last. Most people retire around the age of 65 and should plan as if they will live to at about 85. So, your savings should last for at least 20 years.
But what do you do if your savings won’t last long enough? At any age, there are still lots of actions you can take to better prepare yourself for retirement. Here are some ideas:
Save more
Yes, as simple as it sounds this is by far the most effective way to better prepare for retirement. Think about re-doing your budget to see if you can put away a bit more out of each paycheck. You may also consider working some extra hours if you can. Though for many people this just isn’t feasible.
Work longer
If you won’t have enough money at the age you wanted to retire, you may have to consider working for a few more years, either full time or part time. Working longer now is definitely better than finding yourself with no money in your 80s.
Rethink retirement
Retirement doesn’t have to mean you never work again. You can consider retiring from your main job and continuing to work part time at a job you truly enjoy. Or, you can consider working at a job that gives you benefits like medical insurance. This would both increase your retirement income and decrease the cost of your medical expenses – a great combo!
Take social security at a later age
This is often one of the most overlooked options in retirement. You can start taking Social Security as early as 62 (which is the most common age people start taking it) and as late as 70. But the later you start taking it, the more money you receive. In fact, by waiting just 8 years to take Social Security at age 70, you will get over 75% more money^{4}!
Additional Information & Resources
Full portfolio return calculations for the Jason Smith example are shown below. For your information, you can also get the exact same result in Excel using the Future Value formula: -FV(0.06,15,10000,115000,1). In this formula, the ‘.06’ is the 6% portfolio return, the ‘15’ is the number of years the money has to grow/the number of years until Jason retires, the ‘10000’ is how much Jason saves each year, the ‘115000 is how much Jason already has saved, and the ‘1’ tells Excel that Jason saves his money at the beginning of each year (which we assume because it is ‘left over’ from the year before).
Jason’s Age | Amount | Compounded to Age 65 |
50 | $ 115,000.00 | $ 275,604.19 |
50 | $ 10,000.00 | $ 23,965.58 |
51 | $ 10,000.00 | $ 22,609.04 |
52 | $ 10,000.00 | $ 21,329.28 |
53 | $ 10,000.00 | $ 20,121.96 |
54 | $ 10,000.00 | $ 18,982.99 |
55 | $ 10,000.00 | $ 17,908.48 |
56 | $ 10,000.00 | $ 16,894.79 |
57 | $ 10,000.00 | $ 15,938.48 |
58 | $ 10,000.00 | $ 15,036.30 |
59 | $ 10,000.00 | $ 14,185.19 |
60 | $ 10,000.00 | $ 13,382.26 |
61 | $ 10,000.00 | $ 12,624.77 |
62 | $ 10,000.00 | $ 11,910.16 |
63 | $ 10,000.00 | $ 11,236.00 |
64 | $ 10,000.00 | $ 10,600.00 |
Total | $ 522,329.47 |
When calculating your monthly income and expenses, this table is a useful start to listing out all the items you should consider. Please remember that this is not all-inclusive, and you should change these listings according to your own situation. We have left some rows blanks for you to do this.
Income | Expenses | ||
Income Source | Monthly Amount | Expense Type | Monthly Amount |
Investment Returns | Rent/Mortgage | ||
Pension | Transportation | ||
Social Security | Utilities | ||
Work income (if you continue to work) | Groceries | ||
Occasionally side work (ex: Air BnB) | Insurance | ||
Other income (ex: rental property) | Debt Repayment | ||
Entertainment/Vacation | |||
Total Monthly Income | Total Monthly Expenses |
References
- Northwestern Mutual Life Insurance Company. “Planning and Progress Study 2019.” Newsroom | Northwestern Mutual, 2019, news.northwesternmutual.com/planning-and-progress-2019.
- “Vanguard Portfolio Allocation Models.” Vanguard.com, personal.vanguard.com/us/insights/saving-investing/model-portfolio-allocations?lang=en.
- Marcus, Samantha. “N.J.’s Public Worker Pension System Is the Worst-Funded in the Nation. Again.” NJ.com, 28 September 2019, www.nj.com/politics/2019/09/njs-public-worker-pension-system-is-the-worst-funded-in-the-nation-again.html.
- Caplinger, Dan. “What’s the Most Popular Age to Take Social Security? A Foolish Take.” USA Today, 19 June 2018, www.usatoday.com/story/money/personalfinance/retirement/2018/06/19/whats-most-popular-age-to-take-social-security/35928543/.