Hey, what's up, everyone, Henry here from Disruptive Money Management, and today we're going to talk about the magic number. That's right, the magic number needed for you to retire. I touched on this topic a few episodes back when I talked about the Social Security Trust Fund and how it's rapidly dwindling. Within that episode, I spoke briefly about calculating whether your retirement portfolio can sustain a drop in Social Security. Many comments and questions rolled in on the actual number and how much a person needed to retire.

If you've ever wondered what that magic number is for retirement, then here's the answer: it depends.

It depends on you. What your lifestyle is like, what your expectations are, and what your sources of retirement income will be. So the topic of today's podcast will be about retirement income, how I, as a financial advisor, work through this question with my clients. I'll take you through step-by-step my entire process on determining whether an individual is on track for retirement, and I'll share you with all of the questions that I ask so that you know what you should be asking yourself. At the end of the day, if you know what the questions are and what your retirement scenario looks like, then it's just a matter of determining whether you have saved enough to afford that lifestyle and if you're still saving, then whether or not you're on track for retirement.

*What do you want your retirement to look like?*

Understanding who you are as an individual and a household is the first step in creating a financial retirement plan. When creating your financial plan, it's essential to understand that you must plan for longevity because how long your financial plan lasts will impact how much you need to have saved. It's easy enough to know that a retirement nest egg that needs to supply a steady stream of income for twenty to twenty-five years is much more different than a time frame of ten or fifteen years.

Now, most of us probably won't know when we're going to kick it. Some of us may have concerns about family history or whatnot, but I can tell you that people live longer with modern medicine and a healthy lifestyle. So how do you plan for the unknown? Well, you plan for a longer time frame. In my professions, we generally use actuarial insurance tables, and actuarial tables tell us that a male retiring now in 2021 is expected to live until about age 91. A female retiring now is expected to live up until about age 94.

I'm going to let that sink in for a bit. 91 and 94. Those are some big numbers amirite? But are they really, though? Think about it for a second-how many in your life do you know are pushing into that range? Now obviously, those in that age range are perhaps one or two generations before you. Maybe it's your grandfather or father even. Those who are age 90 this year were born in 1930, right around the Great Depression era. If you can imagine individuals from that era surviving through all of this, then the question remains, why shouldn't we expect you to live up until that age? Again, with modern medicine, advancing technology, and a health-conscious lifestyle, I won't be so surprised if we start pushing the average into the mid-'90s shortly.

So what do you do when the average individual is expected to spend roughly twenty-five years in retirement? How do you account for inflation? How do you know you won't run out of money in retirement? What happens when Social Security drops by 25% thirteen years from now? What about long-term care? Has that concern been addressed in your financial plan?

When I meet with someone new, my very first thought is that I'm running the timeframe in my mind. I'm thinking to myself how old or young this individual is and my time frame for planning. I'm guessing not just about the timeframe for retirement but also the timeframe until retirement. Both these things combined give me an idea of what we're working with.

For instance, if I'm working with someone who is sixty years old and wants to retire at full retirement age, then I know we have a window of approximately seven years to play any catch-up if the retirement nest egg isn't where it needs to be. I also know that the nest egg will need to sustain withdrawals for approximately twenty-five years.

More and more of my new clients are younger individuals in their late thirties and early forties. Many of them are in the tech sector who have seen their portfolios hit seven figures, and they are now wondering if retiring is possible. Again, it just comes down to numbers; if the individual is forty years old and the retirement plan is about perhaps three to five years away, then we're planning for a retirement timeframe of almost fifty years.

Knowing the timeframe until retirement is meaningful because those years are the years in which we can make dramatic changes to the outcome if time is on our side. If you're sixty years old and the probability of retiring the way you want is low, then we know we can do one of three things:

1) Lower your expectations.

2) Delay retiring for a few more years;

3) Increase your nest egg

*If your retirement outlook is not favorable, which options are acceptable?*

Whichever of the three options that you want to take is entirely up to you. If you have a specific picture of what retirement looks like and the numbers don't add up, then you have to lower your expectations. Perhaps that means downsizing your home in retirement or going on fewer trips around the world.

If lowering your expectations is something you're unwilling to do, then delaying retirement by a few years is the next option. That gives you more time to pay off debt if that's the problem or put more towards your nest egg in your highest earning years. Working past the full retirement age of sixty-seven means you get an eight percent increase on your Social Security. If you delay until age seventy for the maximum available amount, you could dramatically change your retirement lifestyle with that extra money. And that's not to mention the significant difference it could make to your nest egg if you add three years of 401(k) contributions.

Lastly, increasing your nest egg is the third and final option if your retirement numbers are not where you want them to be. It could mean spending less now so that more of your disposable income can be re-directed to your retirement account. If you're over age fifty, the IRS allows you to contribute up to $26,000 a year to your 401(k).

I was working with a couple in their late fifties who wanted to retire at full retirement age, and their current plan wasn't possible because they hadn't saved enough money. This couple was pulling in $300,000 in combined earnings, but they only contributed about five percent of their salary to the 401(k). Five percent each! Neither of them was hitting the IRS limit, and the response was that they just never looked at it. Someone had told them that the company match only goes up to five percent, which was all they heard. So for numerous years, this couple just took more taxable income than they needed and spent it. So re-directing that additional income, accepting a change in lifestyle while working so that more money can go into tax-advantaged retirement accounts was what they were willing to do to make sure they retire at age sixty-seven.

The first two things are understanding retirement can last until the 90s and understand how much time you have until you decide to retire. Knowing those two numbers will determine how much time frame you have for saving until retirement. From there, it's a matter of applying math. Let's say your nest egg right now at age sixty is half a million dollars, and you and your spouse are both willing to max out your 401(k) every year for the next seven years.

That's $26,000 per person for seven years which comes out to $182,000 each or $364,000 combined. For an individual earning $150,000, that is approximately $1,000 out of your paycheck going towards retirement savings if you receive 26 checks a year.

Let's not forget the company match because most employers offer a match. Assuming it's a Safe Harbor match which is relatively common, that's approximately 4% of your salary, so in this case, that's another $42,000 per person over the seven-year time frame. We're now looking at $448,000 saved over the next seven years if we add everything up.

But that's just money saved; we haven't even thrown in the growth potential.

At a 5% average annual rate of return, the potential future account balance between the two would be just under 1.3 million dollars.

At a 6% average annual rate of return, it's about 1.35 million dollars.

And at 7%, the potential future account balance is approximately 1.4 million dollars.

*Feeding the retirement piggy early on and continuously allowing for compound growth is a sure-fire way towards a healthy retirement.*

The difference in saving more money and giving that balance seven years to grow is a difference of $362,000 more in the retirement nest egg for this couple who went from contributing 5% of their salary to the IRS maximum.

The question then becomes, is that enough? Is $1.4 million enough for two people to retire at age 67 with a projected retirement time frame of 25 years? The answer again is it depends.

Going back to lifestyle, you have to ask yourself how much does that costs. What are your annual expenditures when it comes to your life? If you haven't sat down and looked at the numbers, now is the best time to do so.

Some examples of these expenses are:

Your monthly housing expense. Is your mortgage expected to be paid off by retirement age, or are you still going to be carrying that amount?
Your annual homeowner's insurance and property taxes;
Car payment, if any;
Your auto insurance premium and gas expense assume that gas expense will decrease if you are currently a commuter;
What about the utilities for your household? Gas, electric, water, sewer, and waste management? These expenses don't go away at retirement, and in fact, some may even go up. You may end up using more gas and electricity because you're home more often.
What's your cost for health and fitness?
What's your cost for groceries?
What about dining out?
How about entertainment? Do you grab a couple of movies a month or head into the city to catch a show? Tally these entertainment expenses together.
What about household entertainment? How much do you spend a month on cable television? Internet? Hulu? Netflix?
What about your wireless expenses like your cell phone plan?

As you tally up these items, just try to reflect on what you pay for every month. These fixed expenses, as I call them, are probably going to stick around even in retirement. Sure, you can decrease some like gas, but others will offset the decrease, so it's always a good idea to know what the fixed expenses are.

Now move on to your variable expenses, which are expenses that don't occur every month. Perhaps it's that vacation that you would like to have. I mean, what exactly does retirement look like for you? Is it heading out to the cabin every summer? Is it taking a cruise once a year? Think about those things you want to do and apply a monetary cost to them. Perhaps it's ten grand for the cruise all-in. And let's say it's another two thousand dollars to fly you and your significant other to where your kids live during the holiday season.

Whatever that case may be, add the variable costs together, and you'll have a rough approximation of what your annual spending would be in retirement.

Don't forget to factor in health care expenses. The average healthcare expense for today's retiree is about $6000 a year. This is your Part B cost, prescription drugs, copay, etc.

One of the most significant health care expenses in retirement is long-term care. Long-term care varies based on the type you need, whether assisted living, in-home care, or acute care. The national average is about $4800 a month, but you'll want to adjust according to your location.

The tricky part of long-term care is that, of course, you don't know when you're going to need it. When I run my financial plans, it is generally for one year towards the end of term, so for a male, I'll want to make sure we have enough set aside for long-term care when the individual hits 91 and 94 for the female counterpart.

I have a general dislike towards long-term care plans. Insurance salesman often sells long-term care plans with scare tactics and without any fundamental understanding or promotion of financial wellness. They always come at you by asking you how you'll afford $4800 a month if you go into long-term care. They'll scare you into a policy by telling you that your only other option at that point would be to burden your children. They'll let you know that you can buy your coverage for pennies on the dollar and not have to worry about it.

The problem is that which they don't tell you or usually gloss over real quickly. Almost all policies require that you cannot do three out of five things before the policy kicks in. The guidelines have an annual daily maximum coverage limit, so if you're living in a high cost of living area, it may not be enough. LTC policies also have a maximum allowable amount, so the coverage stops once you hit that total amount.

It's hard to gauge whether you're going to take advantage of the benefits or whether you can even fully realize it. As I said, insurance is for that unknown. Long-term care policies can be very costly, and history has shown that insurance companies are very good at raising premiums, so you have to consider that. What happens when you start a policy and become unable to afford it ten years later? Do you just cancel it or cash it in for a paid-up policy? These variables for the changes can ultimately be out of your control.

This is why I always recommend individuals self-fund their long-term care where possible. Almost all of the individuals I work with self-fund for long-term care rather than buying a policy.

The truth is, when you need to go into long-term care, that's pretty much where you're going to be. It's not like you're going to be spending $4800 for assisted living on top of the $5000 that you need for household expenses. You literally won't have any other costs at that point.

Self-funding your long-term care can be accomplished by setting aside money early in or even in retirement in a particular place earmarked just for that. Realistically speaking, you won't need as much money in the later years of retirement compared to the earlier stages. I know we all have this great and grand plan of traveling all over the world, but really, how many years do you think you'll have before you start slowing down? Maybe not age 70, but when you're in the eighties, what's the likelihood that you'll want to hop on a plane for around the world flight?

In my experience, the body will start slowing down as you enter into the mid to late seventies, and you'll want to stay home more. At that point, you'll be spending less than what your retirement nest egg can generate, ideally, and saving a lot. That money can then be recirculated back into your portfolio for growth. Your growth-oriented portfolio would be later applied towards late-stage medical expenditures.

Circling back to our main topic of discussion, now that we have a projected nest egg balance and our annual projected expenses, it's just a matter of seeing whether your retirement income can cover costs.

If you haven't pulled your Social Security statement already, I urge you to go to www.ssa.gov and pull a copy so that you can see what your projected benefits are. Add yours, and your spouse's SS together, and that'll give you a fixed income. If you are one of the few who have pensions, add that to your Social Security benefits.

From your retirement nest egg, apply a withdrawal rate of say 4%, and that'll be your variable income. The 4% rule gets a lot of crap because many say it's unrealistic, but again, it's just a guideline. You can adjust it to 3% if you don't feel comfortable with that high withdrawal factor.

For example, a 4% withdrawal rate for a nest egg of 1.4 million dollars is $56,000. That is gross of taxes, so you'll want to deduct about 18 to 20 percent for taxes.

Using the example of the couple earlier, let's say we estimate $56,000 a year in withdrawals from their retirement nest egg and about another $54,000 a year from Social Security benefits. That puts a retirement income of $110,000 a year before taxes. As long as that number is higher than your projected retirement expenses, then you know you're in good shape.

As I mentioned in another episode, I urge you to tweak the income number with a decrease in Social Security to see if your portfolio can sustain a higher withdrawal rate. If Social Security drops by the anticipated 25%, you'll need to increase your withdrawal rate from 4% to 5% to compensate for the lost benefit.

And that's it for today, my friends. I hope you enjoyed this episode on retirement income planning. Most of us will only have the opportunity to retire once in our life, so I urge you to take the extra effort to determine whether the money moves you have made will set you on the right path. Until next time, I wish you and your loved ones the very best.

How to Calculate Whether You Have Enough Saved for Retirement

Subscribe to our Newsletter