How to figure out what you need to retire

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Do you know how much money you'll need to retire? Or how many eggs you should have tucked away at various stages in your life in order to end up with a big enough basket?

If you're like many people, you have no clue.

"Most people don't have any idea how much they should be saving" in order to have a reasonable shot at retiring in their mid-60s, said Charles Farrell, an investment adviser, author and former tax attorney in Denver.

"They put away a couple of bucks and think they will magically end up with a lot of money."

But the guessing game isn't panning out. Study after study has found that millions of Americans will be financially unable to quit working before they die.

One recent survey by the actuarial and employee benefits firm Nyhart found a stunning 81 percent of workers won't be able to afford to retire by age 65.

On average, people will have to keep working until age 73, while those currently age 60 to 64 probably will need to continue slogging it out for a paycheck until age 75 because they haven't been pumping enough into their 401(k)s, the study found.

Most people weren't contributing enough to their retirement savings in the past and only fell further behind during the recent recession, according to the study.

Some people procrastinate simply because they are unsure of where to invest their money. But that's a poor excuse, said Thomas Totten, senior actuary and lead researcher for the study covering 110 public and private companies.

"The decision of how much employees contribute to their 401(k)s far exceeds the importance of which investment funds they choose," he said.

That's where Mr. Farrell comes in. He devised a batch of simple tools, and wrote a book, to help answer what he calls the two biggest financial levers in most people's lives: how much debt to carry and how much to save.

Mr. Farrell figures that most people who make less than $200,000 annually -- "unless you're a Trappist monk" -- will need about 70 percent to 80 percent of their pre-retirement income to maintain their standard of living when they retire.

Retirees are able to live on less than before because they don't have to save for retirement, pay Social Security (FICA) taxes or have other expenses such as commuting costs to work. But health care costs will probably rise substantially.

"Count on health care costs replacing your mortgage payment in retirement," Mr. Farrell said.

Mr. Farrell calculates you'll need a nest egg worth 10 to 12 times your annual salary if you don't want to worry about running out of money. That means someone making $50,000 would need savings of about $500,000 to $600,000 at retirement, while someone making $100,000 would need $1 million to $1.2 million.

To get there, people should be setting aside roughly 12 to 15 percent of their annual pay while working, he said. People whose employers match their 401(k) contributions, say at 3 percent, could scale back to a minimum of 9 percent.

His formula offers benchmarks to help people figure out if they're on track to reach those savings goals. (See charts.)

For example, people who make $50,000 a year and want to retire at age 65 should have 2.4 times their annual salary saved by age 40 (savings of $120,000), and 5.2 times their annual salary saved by age 50 ($260,000).

His calculations allow for people to spend about 5 percent of their nest egg each year to live on, or about $60,000 per year for someone with savings of $1.2 million. Social Security makes up the rest. (His figures assume Social Security benefits will be cut in future years.)

The formula doesn't include pension payments. People who will be getting a pension can make a simple adjustment in the formula to set a lower savings target. (If, for instance, you'll be getting a pension worth $20,000 per year, subtract that amount from your annual income and use that amount in your savings calculations. For example, someone making $100,000 who is expecting a $20,000 a year pension would need 12 times annual income of $80,000 (a total of $960,000) at retirement instead of 12 times $100,000 (a total of $1.2 million). To be on track at age 50, that same person drawing a pension would need savings of $416,000, instead of $520,000.)

For most people, increasing their savings is more a matter of will than resources, Mr. Farrell said.

While about 20 percent of the population has no money to save, "everyone else really has some choices," he said.

"We are a very wealthy country. We have the money to [sock away] but people don't do it ... because it requires discipline and long-term planning.

"People drink too much, eat too much, don't exercise enough because they don't have a lot of discipline," he said. "We tend to take the easy route."

As a result, instead of accumulating 12 times their annual salary, when retirement rolls around most people only end up with about two or three times their pay in savings, he said.

As for the sometimes paralyzing decision of where to invest for retirement, Mr. Farrell said Wall Street encourages people to be too aggressive with their money.

"People don't like to accept the reality that the stock market has down cycles," sometimes very long down cycles, he said.

The closer people are to retirement, the more retirement money they should have invested in safe instruments, such as FDIC-insured certificates of deposit and U.S. Treasury bonds, he said.

"If you reach for too much return, you can find your portfolio is cut in half" with no time left to wait for a rebound, Mr. Farrell said, a painful lesson learned by many would-be retirees in recent years.

If you find it impossible to meet optimum savings targets, do the best you can, he said.

"It's very important for most people to take inventory of where they are, where they are headed and put together realistic goals for their retirement years. Goals that are unreachable will make you discouraged, and then you won't do anything," he said.

"Look at it as a long-term process. You don't have to solve everything tomorrow."

For more about Charles Farrell and his financial ratios, go to

Patricia Sabatini: or 412-263-3066. First Published February 6, 2011 5:00 AM


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