The Most Important Factor in Retirement Success: How Much You Save
Retirement and all the topics around it can be confusing. But here is good news: there are only four REALLY important factors to focus on. And THE most important driver is your savings rate, or the percentage of income you save each year.
Here is a high-level rule for retirement saving:
For most individuals with at least thirty years until retirement,
saving 12-15% of income is a good rule of thumb.
Let’s prove this out to you with some numbers. And we will do if for an imaginary typical American worker, who we will call Average Joe (or Jane, if you like). We will assemble their situation using U.S. averages in several financial and economic areas.
With a Saving Rate of 15%, “Average Joe” Comes Close
-Median U.S. Annual Household Income:* $75,000
-Assumed Savings Rate (%): 15%
-Assumed Age of “Average Joe”: 32
-Median Retirement Age in U.S:** 62
-Median Age at Death for a 62 year old:*** 84
-Investment Returns: **** 7.8% during working years. 6% during retirement.
A savings rate of 15% would mean Average Joe would be saving $11,250 per year ($75,000 x 15%). If Average Joe saved for thirty years, he would accumulate $1.27 million for retirement.
Is that enough? Let’s assume a twenty-two year retirement, which is the median length of retirement for someone retiring at age 62. A “safe withdrawal rate” of 4.5%***** for Average Joe would mean taking $57,350 from his retirement account each year in retirement. This represents about 76% of pre-retirement income, just short of the 80% target considered acceptable. But remember, we have not factored in Social Security. Average Joe could take early benefits at age 62, or wait until full retirement age.
Either way, using a “rule of thumb” savings rate of 12-15%, combined with the typical Social Security retirement benefit, Average Joe would get where he needs to be in retirement.
So what have we learned? As we see above, we need to save a minimum portion of our annual income to retire comfortably. And no matter how much you earn each year, the key is what portion, or percentage, you save. We do not have to talk about a fixed dollar amount, but rather the percentage of your earnings you put away for retirement. It’s the same math for a high earner, a low earner, or an Average Joe (or Jane!).
You can do it!
Coming Next: An Idea for Setting a Retirement Savings Goal
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Bonus Content
To understand the power of adding just 1% extra to your savings rate, use this calculator:
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So How Much Are People Really Saving?
We see above that a savings rate of 12-15% of annual income should get us there. How does that compare to reality in the U.S.?
POP QUIZ:
According to a recent study of 401(k) plan participants, what is the average total contribution percentage that people are saving in their 401(k) plans?
a. 3.3% b. 7.4% c. 9.8% d. 12.1%
(Source: Vanguard—How America Saves. 2023)
The answer is B, 7.4%. Remember above we mentioned the ideal savings rate is about 15%. So generally, folks are saving roughly half of what they need to, which will result in them having half of what they need on the first day of retirement. By following the rule of thumb above, you will be taking charge of your retirement planning! Congrats to you!
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How Much Are You Saving?
You can’t manage something if you can’t measure it. So how are you doing on saving for retirement? Use the guidance below to calculate your savings rate.
Your Annual Savings: $________ [divided by] Your Annual Income: $______ = Your Savings Rate: _________%
For annual savings: include your contributions to employer plans, plus any company match, as well as any savings for retirement in IRAs, brokerage accounts, etc.
For annual income: use gross income, including salary, wages, bonuses, investment interest, and dividends.
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For Those Just Starting to Save at These Stages
Years ‘til Retirement Rule of thumb
30 12-15%
25 14-16%
20 18-20%
15 20-22%
https://www.fidelity.com/products/retirement/widget/xfactor/retire_xfactor.html
*Assumes a 30-year retirement.
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Friendly request: This whole blog is an endeavor aimed at helping folks improve their retirement situation. My goal is to post content that folks like you find useful in planning their retirement. Please comment below with feedback and think along the lines of “Was this helpful? What else would you like to know? Any burning topics or steps related to retirement planning on your mind right now?” Thanks!
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Sources:
* Median U.S. Household Income 2022. U.S. Census Bureau
** Mass Mutual Retirement Survey. 2023
*** Office of the Actuary of the Social Security Administration, 2023
**** Assumes a portfolio consisting of 80% equity, 20% fixed income during working years; 50% equity and 50% fixed income during retirement.
***** The “safe withdrawal rate” is 4% for a thirty-year retirement, a commonly accepted industry rule of thumb. Since Average Joe is in retirement for a shorter period of time (20 years based on life expectancy tables cited above), we have bumped the safe withdrawal rate to 4.5%.
