Retirement Reboot: How to Calculate Your Number

The 2014 Employee Benefit Research Institute Retirement Confidence Survey is out and the news is mixed. After dropping to record lows between 2009 and 2013, the percentage of workers confident about having enough money for a comfortable retirement, increased in 2014. 18 percent are now very confident (up from 13 percent in 2013), while 37 percent are somewhat confident. 24 percent are not at all confident (statistically unchanged from 2013). As you might expect, the higher the household income, the more confidence increased. Nearly two-thirds of all workers (or their spouses) – and 79 percent of full time workers – have saved for retirement. But the total savings level varies dramatically. 36 percent say they have less than $1,000 (up from 28 percent in 2013) and 68 percent with household income of less than $35,000 a year have savings of less than $1,000.

Why don’t we save more? More than half of respondents say that there’s nothing left after paying for general cost of living and day-to-day expenses. Data bear out the conundrum: As noted in House of Debt, real income for the median U.S. family doubled from 1947 to 1980, when the rising tide of productivity lifted all boats. However, “while the United States is producing twice as much per hour of work today compared to 1980, a small part of the gain in real income has gone to the bottom half of the income distribution,” as the share of profits has risen faster than wages and the highest paid workers are getting a bigger share of the wages that go to labor.

The double whammy of disappearing pension funds and stagnant income has put many Americans behind the eight ball for retirement. The U.S. ranked a dismal 19th in the 2014 Natixis Global Retirement Index. As it turns out, despite having one of the highest per capita incomes in the world, U.S. income inequality and health expenditures are high compared to other countries. (Four Nordic countries, Finland, Sweden, Denmark and Norway are best performers, despite relatively high tax burdens.) You are allowed to spend two minutes lamenting the fact that you don’t live in a Nordic country, before getting to work.

The first step in your retirement planning process to is to determine where you stand today. Check out EBRI’s Choose to Save Ballpark E$timate or go to your retirement plan/401(k) website, where there is likely a retirement calculator. Many of these tools require you to estimate several factors. My crystal ball isn’t perfect, but here are some sensible estimates that should help:

• Inflation assumption: 4.5 percent (significantly higher than where we are today, but most economists believe that inflation is headed up in the coming years).
• Rate of investment return both before and after retirement: Consider your risk tolerance and err on the side of being conservative. If you’re stuck, use 4-6 percent. Obviously, if you use a higher rate of return, the calculator will ultimately determine that you have to save a smaller amount.
• Life Expectancy — if you are younger than 50, use 95; if you’re older than 50, use 90. If you want a closer estimate, go to http://www.livingto100.com and use their Life Expectancy Calculator, which takes into account your personal and family medical history.
• Retirement Income Need: Many calculators will take a percentage of your pre-retirement earnings (many use 80 percent) as a baseline for what you will need in the future — sometimes called a “replacement rate.” A more precise way to determine that number is to figure out how much you spend today, isolate those expenses that won’t occur in retirement (so for example: mortgage payments; tuition; child care; commuting expenses) and poof, you have your replacement rate. Assume that the money you were paying in FICA taxes will be necessary to pay some or all of higher health care costs in the future, so leave that amount in for your calculation.

After accounting for what you have saved thus far and what you plan to contribute in the future, the calculator will spit out your retirement savings goal. The number may seem absurdly large, but do the best you can right now and hopefully, as your financial conditions improve, you will be able to contribute more. The process may seem daunting, but I promise that you will feel better by doing something.