As the wave of baby boomers quickly approaches retirement, many questions come to mind. One of the primary questions should be: Do I have sufficient savings to cover my expenses in retirement?
Prior to the 1980s, most companies provided their workers a pension income that was guaranteed for their lifetime. Increases in life expectancy, while good for medical science, significantly increased the cost of maintaining these plans. Consequently, many companies opted to abandon the traditional defined benefit pension plan and instead offered a defined contribution plan (401k, 403b, etc.). This change shifted the responsibility of providing for retirement from the company to the employee.
Participation in these company plans became optional and companies limited their commitment to a certain percentage of an employee’s salary.
Over the past 10 to 15 years, a number of firms have tried to provide estimates of what prospective retirees will need to save prior to their retirements to help ensure they will not run out of money.
A recent study by Hewitt Associates, a global human resources consulting firm, found that employees will need to save 15.7 times their final pay to cover their expenses. This amount includes Social Security, which is expected to account for 4.7 times, leaving employees to fund the remaining 11 times.
If you earn $60,000 and want to retire this year, this formula would suggest that you should have $660,000 saved between your retirement and other savings. Seem like a lot? It is, and most Americans (approximately four out of five) will fall woefully short, according to the Hewitt study.
So, if your retirement is not imminent, what can you do?
First, take stock of where you are – how much have your saved up to this point? When do you want to retire? Can you estimate what your expenses could be in retirement?
Second, you want to set a specific dollar target. If you are more than 10 years from retirement, it may be impractical to estimate retirement expenses, so you can simply grow your current income at the rate of inflation (use 3 percent to 4 percent) to estimate your final salary and choose a formula similar to the Hewitt suggestion.
Finally, take action if you determine you are looking at a shortfall – maximize retirement plan contributions rather than just contributing up to the amount your employer matches. Reducing and eliminating debt, particularly consumer debt such as credit cards and home equity loans while you are still working can help your cash flow in retirement.
If your retirement is imminent (within five years) and you think you may be facing a shortfall, you can benefit from the options discussed above, but it may be even more beneficial to consult a professional. Most planners employ sophisticated software that can evaluate literally thousands of potential scenarios to assist with this analysis. They can also provide insights that you may have not even considered.
Give yourself a chance to succeed by initiating your retirement plan today.
Jim Heisler is a Certified Financial Planner with Family Wealth Services in Holmesburg. You can read all his Financial Perspective columns here.
Registered Representative, Securities offered through Cambridge Investment Research, Inc., A Broker/Dealer, Member FINRA/SIPC and Investment Advisor Representative, Cambridge Investment Research Advisors, Inc. a Registered Investment Advisor. Family Wealth Services, LLC and Cambridge are not affiliated.
Jim Heisler, CFP®, CDFA™, CASL™
Family Wealth Services, LLC
8725 Frankford Avenue
Philadelphia, PA 19136