4 Steps to Quickly Figure Out Your Retirement Number

By Trent Hamm

At some point during each of our professional lives, we wake up to the fact that we really need to be saving for retirement.

We're all going to retire, and that means we're all going to need some money put aside for retirement. The problem is that when we think broadly about saving for retirement, it seems impossible. A million dollars? More? How are we going to possibly come up with that kind of money?

Here's the catch: None of those retirement articles out there -- the ones that talk about having to save millions -- are writing about your situation. Instead, they're writing about someone else, often someone earning a lot more than you.

What you need is a plan that works for you, and that starts with having a good target number for retirement savings.

To calculate your retirement number all you need is your most recent Social Security statement along with how much you made in the past year as well as the number of years between now and when you plan to retire. You'll also need a web browser with Google ready to go and a piece of scratch paper.

Step 1. The first thing you need to figure out is what your current salary will look like when you retire because this whole plan is based on the idea that you'll live on your current income when you retire. If you plan on living on 80 percent of your salary or another percentage, head to Google right now and type in "80 percent of \$40,000" or whatever your current salary is. I usually suggest people use 80 percent of their salary for their retirement number because they will no longer have work-related expenses.

Step 2. Expect that long-term inflation will be 3 percent, which is based on a high-end estimate from the Federal Reserve.

So, you should go to Google and type in "1.03^" followed immediately by the number of years between now and when you expect to retire. So, if you expect to retire in 18 years, you'd type in 1.03^18.

Now, take that number and multiply it by your salary (or whatever you decide to use above). If you're using Google, a calculator should appear with the first number already entered for you. If you were using \$32,000 per year (80 percent of \$40,000) and you're retiring in 18 years, for example, it will give you \$54,477, which is what your salary will look like in 18 years with normal inflation.

Step 3. From that number, you need to subtract what you'll receive annually from Social Security, so pull out your Social Security statement and look for your annual benefit. %VIRTUAL-article-sponsoredlinks%Subtract that from your salary above. In this example, a person might have an annual benefit of \$15,000 from Social Security, so his or her new number would be \$39,477.

Step 4. Now, that annual amount is going to have to last you for awhile. I usually assume people will spend an average of 25 years in retirement, but their investments will continue to earn a return while they're retired. So, I tell people to multiply that salary number by 20, which is your final step.

Therefore, a person who makes \$40,000 per year and is 18 years from retirement needs to save \$789,540 for retirement.

This is a quick calculation, of course, but saving enough to hit your number isn't as scary as you might think, particularly if you're far from retirement. This person, who receives a 1:1 employer match on his or her 401(k) up to 6 percent, and hits all of that while also fully funding a Roth individual retirement account each year, would be close to on pace for that number. Someone starting to save earlier might not even have to push that hard. Someone starting later might have to save even more or consider waiting a year or two longer to retire.

The lesson of this story is simple: Start saving now. You're going to need quite a bit of money to retire, and every year you put it off the harder you make your savings journey.

Trent Hamm is the founder of the personal finance website TheSimpleDollar.com, which provides consumers with resources and tools to make informed financial decisions.

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For the best chance of maintaining your lifestyle in retirement, aim to contribute 15% of your salary, including any employer match, to your 401(k) or other savings account throughout your career (see What's Your Retirement Number?). Most people fall short of that benchmark. The average employee contribution to a 401(k) is 6% to 8%.

Saving 15% may seem like lifting weights at the gym for several hours. Try it anyway, says Stuart Ritter, a financial planner and vice-president of T. Rowe Price Investment Services. "Kick your contribution level up to 15% for three months. At the end of the three months, you can lower it, if necessary." But rather than dipping back to single digits, go with 10% or 12%, he says. "People find they can settle on a much higher amount than they were contributing before."

Procrastination is another risk: With each year you neglect to save, you lose an opportunity to fuel your accounts and to let compounding keep the momentum going.

So powerful is the effect of saving early that you could have less trouble catching up if you take a several-year break-say, to pay for college-than if you wait until midlife to start. At that point, says George Middleton, a financial adviser in Vancouver, Wash., "the amount of money you have to put away can be ungodly."

Still, you can make headway, especially if your kids are grown and you have fewer expenses. Say you're 55, earn \$80,000 a year and have nothing saved for retirement. You put the pedal to the metal by setting aside \$23,000 in your 401(k) each year for the next ten years. That \$23,000 combines the annual maximum for people younger than 50 (\$17,500 in 2013) plus the annual catch-up amount for people 50 and older (\$5,500). If your employer matches 3% on the first 6% of pay and your investments earn an annualized 7%, you'd amass \$434,700 by the time you reached 65.

For some investors, a bad case of the jitters became a bigger derailer than the recession itself (see How to Learn to Love [Stocks] Again). "People got very nervous and became more conservative, so when the market came back up, they had less of their port­folio participating in the rally," says Suzanna de Baca, vice-president of wealth strategies at Ameriprise Financial.

You can get back in (and stay in) by investing in stocks or stock mutual funds in set amounts on a regular basis. Using this strategy, known as dollar-cost averaging, you automatically buy more shares at lower prices and fewer shares at higher prices-an antidote to market-driven decisions. Once you decide on your mix of investments, use automatic rebalancing to keep it that way, advises Debbie Grose, of Lighthouse Financial Planning, in Folsom, Cal.

Most financial planners recommend that your portfolio be at least 80% in stocks in your twenties, gradually shifting to, say, 50% stocks and 50% fixed-income investments as you approach retirement. But formulas don't cure panic attacks. "Set your risk at the level you're willing to withstand in a downturn," says Middleton.

Amassing hundreds of thousands of dollars for retirement is challenge enough, but parents are also expected to save \$80,000 to \$100,000 per kid to cover the college bills. In fact, half of parents don't save for college at all, and the average savings among those who do runs about \$12,000, according to a 2013 report by Sallie Mae, the financial services institution. Faced with a shortfall, two-thirds of families say they would use their retirement savings to pay for their children's college education, if necessary.

Don't wait until your kid is 17 to discuss how much you'll contribute. Have a conversation early about how much you can afford to give, says Fred Amrein, a registered financial adviser in Wynnewood, Pa.

A Roth IRA can be one way to save for both college and retirement, although it won't get you all the way to either goal. You can contribute up to \$5,500 a year (\$6,500 if you're 50 or older) in after-tax dollars, and the money grows tax-free. You can withdraw your contributions for any reason, including college, without owing tax on the distribution. You will pay taxes on the earnings (unless you're 59 1/2 or older and have had the account for at least five calendar years), but you won't have to pay a 10% early-withdrawal penalty if you use the money for qualified higher-education expenses.

Leaving the workforce, even temporarily, deprives you of current income and makes it tougher than ever to save for retirement. You might even find yourself tapping your retirement accounts to cover day-to-day expenses. You'll owe taxes on distributions from a traditional IRA plus a 10% penalty if you're younger than 59 1/2.

The best way to avoid that dismal situation is to have an emergency reserve that covers at least six months or even a year of living expenses, says Jim Holtzman, a certified financial planner in Pittsburgh. He acknowledges, however, that "that's easy to recommend and hard to implement." Avoid further disaster by hanging on to health insurance: If you can't get coverage through your spouse, look into keeping your employer-based coverage through COBRA. You can extend that coverage for up to 18 months, although you'll pay the full premium plus a small administrative fee. As of January 2014, you'll also have access to coverage through state health exchanges.

Married couples who depend on each other's earning power need life insurance to cover the gaps when one spouse dies. You can get a rough idea of how much coverage you'll need on each life by calculating what you each contribute to annual living expenses and multiplying that amount by the number of years you expect to need it, says Steve Vernon, of Rest-of-Life Communications, a retirement consulting firm. (For advice on how to do a more precise calculation, see How Much Life Insurance Do You Need?)

If you have a pension, you'll have the option of choosing a single-life benefit, which ends at your death, or the standard joint and survivor's benefit, which pays less while you're alive but keeps paying (typically at 50% to 75% of the benefit) for the rest of your spouse's life. Your spouse is legally entitled to the survivor's benefit and must sign a waiver to forgo it. Don't be tempted by the higher-paying single-life option if your spouse will need the survivor's benefit later.

Decisions you make in claiming Social Security are similarly key. If you're the higher earner (typically, the man), "you will really help your spouse by delaying Social Security as long as possible," says Vernon. The benefit grows by about 6.5% to 8% a year for each year you delay after age 62, when you first qualify, until you reach age 70. If you die first, your spouse can qualify for a survivor's benefit up to the full amount you were entitled to, depending on the age at which she files.

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