How Much Money To Retire? Calculate The Gap

In order to determine how much money you need to retire, you will need to have an accurate estimate of your retirement expenses and your guaranteed sources of retirement income. Then you will calculate the gap between those two numbers and determine how much money you would need to save to fill in the gap, or how to reduce expenses.

You can use the example below to calculate this yourself, use an online retirement income calculator, or hire a qualifed financial advisor to help you.

Example:
Assume you have determined that to meet your retirement expenses you will need about $73,000 of gross inocme per year (that includes what you would pay in taxes), and that social security was going to provide about $21,000 per year.

Calculating the gap:
$71,000 - $21,000 = $50,000.

Now you know that investments much generate $50,000 per year. So, how much money you would need to have to invested to generate $50,000 per year of income?

That depends on two things:

• The rate of return you will earn.
• Whether you are willing to spend principal or not spend principal.

Example:
If investments are earning a rate of return of 5% per year, you would need $1 million to generate $50,000 per year of income, and not spend any principal. This means 25 years later you will still have $1 million.

Calculation:
$1,000,000 x 5% = $50,000.

If you determined that it was okay to spend principal down to zero by the time you die, than you would need about $704,000 earning 5% a year to last for 25 years. At the end of 25 years you would have spent all the money.

In this simplified calculation used to determine how much you will need to retire, the answer ranges from $700,000 to $1 million.

Keep in mind, to simplify things, we have ignored two additional factors that are used to determine how much you will need to retire. Those are:

• Inflation
• Life Expectancy

Unless you know exactly how long you will live, what you will spend each year, and how much of an impact inflation will have, you cannot know exactly how much money you will need to retire.

Since you cannot know exactly how much you will need to retire, the next best thing is to develop both a best case and worst case scenario. In your best case scenario you assume average investment returns, low inflation and controlled spending. In a worst case scenario you assume below average investment returns, high inflation and unanticipated expenses.

On to Step 4: Factor In Inflation And Life Expectancy
Or back to 4 Steps To Determine How Much Money You Need To Retire.