How much money will you need to retire? If you’re like the majority of Americans, you don’t know the answer. But experts use a quick rule of thumb to gauge how much you can spend. They suggest a safe withdrawal amount each year is about 4 percent of your savings, meaning you’ll need about 25 times your annual spending when you hit retirement age.
A November 2019 survey shows that more than half of Americans are behind in saving for retirement. Meanwhile, a March 2019 survey found that 21 percent of working Americans aren’t saving at all.
It’s no surprise then that half of working households are at risk of not being able to maintain their standard of living when they retire, according to the National Retirement Risk Index (NRRI) produced by Boston College’s Center for Retirement Research.
There are ways to make sure you stay on track, though. Below you’ll find tips for what you can do to improve your ability to save and what goals you should be aiming for starting today, no matter your age or financial situation.
How much money will you need to retire?
When clients ask Dan Tobias, a certified financial planner at Passport Wealth Management in the Charlotte, North Carolina area, how much they’ll need to retire, he’s quick to redirect the question by asking what retirement looks like for them.
“Are they looking to drive a Lamborghini, or are they looking to move to a 55-plus type condo in Florida?” Tobias asks.
After Tobias understands the person’s retirement vision, he can apply certain rules of thumb. One is seeing what 4 or 5 percent of your retirement savings is – using the classic 4 percent rule – and what your lifestyle would be living off that amount. If that number isn’t on target, you’ll have to either increase your contributions or live more frugally during retirement.
To gauge whether you’re saving enough, Fidelity Investments recommends certain levels of retirement savings as you age.
- For instance, at age 30 you should have at least your annual salary saved.
- By the time you turn 40 years old, you should have saved three times your salary.
- At age 50, you should have six times what you earn annually saved for retirement.
- By the time you hit age 60, the goal is to have eight times your salary saved – and it should reach 10 times your salary by age 67.
Some advisers go even higher: Merrill lists saving 12 times your salary before retiring as one of its rules of thumb.
Bankrate’s retirement calculator can help you get a better idea of how much money you’ll need and whether you may need to work a few more years than expected. But the most important thing is to be realistic about your goals – and don’t underestimate the creeping expenses of being old, especially healthcare costs.
Retirement accounts: Roth IRA vs. traditional IRA vs. 401(k)
Once you’ve committed to saving for retirement, you have a choice of how and where to save. One of the most popular options is the individual retirement account, or IRA. It comes in two major types: the traditional IRA and the Roth IRA.
The big advantage of an IRA is that it provides you a tax break for saving, but it also offers other positives, too, such as tax-deferred growth on your contributions. The specific kind of benefits depends on the type of IRA. Here are the differences between the two main types of IRAs:
Traditional IRA
- Income requirements: Must have earned income. No maximum income, but tax-deductibility may begin to phase out at a modified adjusted gross income of $65,000 in 2020 or $66,000 in 2021, depending on filing status and whether you’re covered by a plan at work.
- Contribution limits: $6,000 per year in 2020 or 2021, or $7,000 for those aged 50 and older.
- When can funds be withdrawn? Funds can be withdrawn at age 59 ½ or after.
- Tax benefits: The traditional IRA allows you to deduct your contribution from your income taxes, provided you don’t earn more than the maximum income. Any money in the account can grow on a tax-deferred basis until withdrawn.
- Early withdrawal rules: Taking money out of a traditional IRA before age 59 ½ will typically result in taxation and may be subject to a 10 percent penalty.
- Required minimum distributions: Yes, after age 72.
Roth IRA
- Income requirements: Must have earned income. Modified adjusted gross income must be less than $124,000 for individual filers in 2020 or $125,000 in 2021 for a full contribution. If it’s more than that but less than $139,000 (in 2020) or $140,000 (in 2021), a partial contribution is allowed. The phase-out for married filing jointly begins at $196,000 and ends at $206,000 (in 2020) or $198,000 and $208,000 (in 2021). However, workers can still open an account via a backdoor Roth IRA.
- Contribution limits: $6,000 per year in 2020 or 2021, or $7,000 for those aged 50 and older.
- When can funds be withdrawn? Contributions can be withdrawn at any time, and any amounts (including earnings) may be withdrawn tax-free after age 59 ½, provided the account has been open at least five years.
- Tax benefits: The Roth IRA allows you to invest money after taxes and then take contributions and earnings out tax-free in retirement. Any money in the account can grow tax-free.
- Early withdrawal rules: Contributions can be withdrawn tax-free, but earnings may be taxed and subject to a 10 percent penalty.
- Required minimum distributions: No, you don’t have to worry about those.
These are some of the major differences between the traditional IRA and the Roth IRA, but the plans differ in other key respects, too. It’s important to know which plan works best for you.
Another popular option for retirement saving is the 401(k), which is established through your employer. A 401(k) may offer similar benefits as an IRA, but it has some major differences, too.
401(k)
Another popular option for retirement saving is the 401(k), which is established through your employer. The 401(k) allows you to invest automatically straight from your paycheck, so many people don’t notice that the money is being diverted to their retirement account. The biggest perk of the 401(k) might be the employer match. Many companies match some or all of your contribution to the 401(k), in effect giving you free money in exchange for saving for retirement.
Like the IRA, the 401(k) comes in two varieties: a traditional 401(k), where funds are contributed with pre-tax money, and a Roth 401(k), where funds are contributed with after-tax money.
A 401(k) may offer similar benefits to an IRA, but it has some major differences, too.
- Income requirements: No limits on your income, but you must have earned income and an employer that offers the plan.
- Contribution limits: $19,500 in 2021, while workers age 50 and older can contribute an additional $6,500, for a total of $26,000.
- When can funds be withdrawn? Generally, money can be withdrawn without penalties after age 59 ½. For a Roth 401(k), the account must also be open for at least five years to avoid penalties.
- Tax benefits: In a traditional 401(k) you contribute pre-tax money, meaning you won’t pay taxes on…