How Much to Save for Retirement?

Retirement Nest Egg

Retirement Nest Egg

That simple title question suggests a simple answer, yet today’s retirees live out a large variety of answers. Life is unpredictable and it is not easy to save for retirement. Further, people get along on what they have and what they receive from others. In short, if a fellow will settle for a short, brutish retirement, he need save nothing.

Still, looking ahead and envisioning realistic retirement goals, then balancing current spending with saving are very useful activities. They put people in charge of their lives and give them a sense of responsibility, both of which induce maturity, discipline and work.

Today’s writing is for people still in their working years. It’s writing that retired parents may want to share with their still working children.

I’m envisioning a typical person who starts earning about $40,000 per year and sees his income increase at roughly 1.5% per year in real terms, which is after inflation. If such a person works for 40 years, their final salary will be near $75,000.

We are working with one person rather than a couple. If two can live more cheaply than one, then something less than double the amounts developed here might work for a couple.

An Overview

Most of today’s workers will receive Social Security and many will receive defined-benefit pensions. Although such pensions are vanishing among private employers, they are still common in public employment. In this post, the savings referred to are what will be needed beyond Social Security and defined-benefit pensions.

Further, people are often assumed to need less income in retirement, and estimates range from about 40% to 90% of a final working income.

Therefore, a person with a final working income of $75,000 in today’s dollars might want $50,000 to $60,000 of retirement income. That person might get $22,000 from Social Security, which can be estimated using the Quick Calculator. That would imply $28,000 to $38,000 of annual retirement income from investments, and I will use the lower amount.

The Rule of Twenty-Five

The easiest estimate for retirement savings is to take the withdrawal rule retirees think best and invert it to get a wealth multiple. I have advocated a flexible 4% rule, and we’ve seen that Alice, our model retiree, has done well using that rule. Her portfolio gained 48% between the end of 2000 and the end of 2012, while she withdrew living expenses each year. She is 77 now and in great shape for another 20 or 25 years of retirement.

Retirees who want to follow Alice and use a 4% rule will need to save 25 times the income they want from investments. The math is irrefutable. A person who expects to need $28,000 each year in retirement from investments needs to save 25 times that amount, or $700,000. With that portfolio, a 4% withdrawal is $28,000.

The Rule of Twenty-Five may be daunting, yet Dallas Salisbury, president of the Employee Benefit Research Institute, recommends the Rule of Thirty-Three. He says people should have 33 times their anticipated retirement income, which is more severe. For a $28,000 annual income, a retiree’s starting number would be $924,000, and the first withdrawal would be just over 3%.

The rules are daunting because they produce high probabilities of never running out of money. No one wants to advise retirees to withdraw large amounts each year and have them end up broke in their late seventies or eighties when they are least able to work.  So the rules postulate withdrawals that are considerably less than expected investment returns. While that helps ensure the portfolio will last, the rules also lead on average to slowly expanding portfolios.  That has been Alice’s experience.


Annuities are an alternative to the percentage withdrawal rules. Annuities are contracts with insurance companies in which a retiree pays an initial sum of money in exchange for a guaranteed lifetime income, regardless of how long the retiree may live. With bare-bones, single-life annuities, the annuity payments stop when annuitants die, just like Social Security.

An insurance company doesn’t know how long anyone will live, but they can estimate averages quite accurately. They base their contracts on the idea of having a large pool of annuitants and knowing average life expectancies. The companies must also estimate rates of return on their investment pools.

Because an insurance company can accurately calculate the expected lifespan of  annuitants, and because the payments stop upon death, a company can pay an individual more than under a 3% or 4% rule.

Immediate Annuities offers an estimate of payments under different types of annuities. A  single-life annuity with no payments to beneficiaries gives the maximum monthly or annual payout to retirees. A woman who retires now at 65 years of age and wants $28,000 of income, could buy that income today for $451,416, or 16 times the annual income. For men, with shorter life expectancies, the multiple is only 15.


We have developed a simple procedure for estimating the amount of savings needed for retirement:

  • Estimate how much annual income you will want in retirement (perhaps as a percentage of your anticipated final salary).
  • Subtract your estimated Social Security income (and defined-benefit pension if you expect to have one).
  • The resulting income must come from retirement savings. The savings you will need can be estimated as a range: multiply the amount by 25 or 33 to estimate an upper limit. Go to Immediate Annuities to estimate a lower limit, which in today’s markets is 15 or 16.

Traditional, single-life annuities are not indexed for inflation like Social Security. If inflation occurs, the real value of the annuity payment ($28,000 in the example) will gradually decline.

In the next post I’ll write about saving to achieve your retirement number.