Retirement planning can be complicated. It’s also highly individual, so there’s no easy way to calculate exactly how much money you’ll need to cover your costs. But that doesn’t stop people from trying.
Retirement “rules” have been floating around for decades. They’re little shortcuts you can use to estimate how much you need to save, how much you can safely withdraw in retirement, and more. But blindly following these four rules could lead you into trouble.
Image source: Getty Images.
1. Save 10% of your paychecks for retirement
Setting aside 10% of your annual income for retirement used to be popular advice, and it worked well for a lot of people when coupled with Social Security benefits and possibly a pension. But pensions are now rare, and Social Security’s buying power continues to decline, so many individuals find themselves having to save more.
Rather than setting an arbitrary savings percentage, it’s best to estimate your retirement expenses (calculators exist to help you crunch the numbers) and use that as your guide.
2. You’ll need 70% to 80% of your pre-retirement income in retirement
Many people find that their expenses decrease during retirement. Their mortgage might be paid off, for one thing, and there’s no commute to work or childcare to worry about. As a result, it’s common to hear you’ll only need 70% to 80% of your pre-retirement income in retirement.
However, that’s not a guarantee. If you plan to travel often or you experience significant health issues, you may need more than that. It’s always best to base your retirement savings goal on your personalized spending estimates to reduce your risk of coming up short.
3. You can spend 4% of your savings in the first year of retirement
The popular 4% rule says you can spend 4% of your retirement savings in the first year of retirement. You then adjust this amount annually for inflation to calculate future withdrawals. The strategy is supposed to help your savings last for 30 years, though this may not always be the case. Even if your savings do last 30 years, that might not be enough for those with a long life expectancy.
Others find the 4% rule inflexible, too, because it doesn’t allow for changing spending habits over time. If this concerns you, you’ll want to adopt a more flexible withdrawal strategy. For example, you can plan for higher expenses in the early years of retirement when you may be more active and then reduce your withdrawals in later years when you’re staying closer to home.
4. Invest 100 minus your age in stocks
Investors usually split their savings between a mix of stocks and bonds to maximize growth without exposing themselves to excess risk. For years, the common advice was to subtract your age from 100 and make the resulting number the percentage of stocks in your portfolio. A 30-year-old would invest 70% (100 minus 30) in stocks and 30% in bonds.
But with people living longer, this asset allocation strategy is too conservative. Today, the general advice is to invest 110 minus your age in stocks. This would mean 80% stocks and 20% bonds for the same 30-year-old. Over time, your portfolio still cycles out of stocks into bonds, but it does so more slowly to maximize your money’s growth.
The above rules can still be useful in guiding your overall thinking as you prepare for retirement. But it’s always best to tailor your strategy to your own situation. Make adjustments as needed so you’re working toward the retirement you want.
