Sunday, February 17, 2013

When Saving and Investing for Retirement ... How Much Is Enough?

Too much of a good thing is usually still a good thing.

And so it is with how much and how early we save and invest for our later retirement years. We can't do too much of it, and we can't begin too soon.

That said, adopting any hard and fast formula or a one size fits all approach to anything in life is a bad idea. And so we shouldn't all follow the same path or formula to achieve our own individual retirement income goals.

'Mass customization' is the idea. By that is meant that we should follow a basic and somewhat generic  plan but individualize it for our own personal wants and needs. In other words, doing our own thing while knowing what those 'in the know' recommend that we do is the best approach to saving, investing and retirement planning.

As an example, what I did was set aside at least 10% of pre-tax income each pay period during my working career. The money was for the most part invested in a passive and low cost S&P 500 Equity Index Fund. In addition, I delayed taking money from my retirement account as long as possible after retirement.

So let's offer some 'mass' food for 'customized' thought.

STARTING SAVINGS --- Get started early. And if we don't begin to save a large percentage of our income on day one at work, then day two, day three or whenever works better than later or never.

HOW MUCH SAVINGS --- And if not 10%,  then saving 9%, 8%, 7%, 6% or 5% of our earnings is better than 4% or less.

HOW MUCH IN STOCKS --- And 90%, 80%, 70%, 60% or 50% of those savings to be allocated to equities is preferable to 40% or less.

WHEN TO BEGIN WITHDRAWALS --- And if not age 67 or later, then age 66, 65, 64, or 63 to begin withdrawals is preferable to age 60 or lower.

Get the 'mass customization' idea?  If so, good. Now let's look at what the 'experts' have to say.

So with the foregoing in mind, Retirement savings: How much is enough? is a good, albeit rough, background guide for individual savers and investors:

"Are you saving enough for retirement? A tool from Fidelity Investments aims to give savers a rough guide to let them know whether they’re on track—but, as with all retirement tools aimed at a broad audience, take the information with a grain of salt.

Fidelity’s guide estimates that workers should save at least eight times their salary by the time they retire at age 67, in order to replace 85% of their pre-retirement income. (To reach that 85% replacement rate, Fidelity adds in expected Social Security benefits.) The guide offers specific age-based savings goals to meet along the way.

Retirement savings
Age in yearssavings target
300.5 times current salary
351 X
402 X
453 X
504 X
555 X
606 X
657 X
678 X
Source: Fidelity Investments

For example, Fidelity says that a 35-year-old should be on track to cover her basic retirement expenses if she’s saved one year’s worth of her current salary and she continues to save at a specified rate until she retires at age 67. For a 40-year-old, it’s two times salary; for a 55-year-old it’s five times salary.

For people who are unsure about whether they’re saving enough—and plenty of us fit that description—this type of guidepost may be a useful check-in. Fidelity Investments manages 401(k) plans for about 12 million participants and said workers are asking for this type of information.

Among workers who call for retirement guidance, “The No. 1 question we get from participants when they call is, ‘Am I on track?’” said Beth McHugh, vice president of thought leadership at Fidelity Investments.

Here’s the rub: Any tool or guide that promises to tell you how much you need to save is using assumptions that may or may not fit your situation. You may end up saving too little—or too much. As Fidelity notes in its news release: “Every individual’s situation will differ greatly.” The best advice is to proceed with caution with this tool and with any of the myriad retirement-savings calculators and guides out there.

For example, while Fidelity says that having saved eight times your salary by the time you retire is a good rule of thumb to reach an 85% replacement rate, consulting firm Aon Hewitt says you’ll need 11 times your salary saved to pay for retirement costs.
Read the full report from Aon.

Fidelity assumes you’ll start saving 6% of your salary at age 25, ramping up your contribution rate by one percentage point a year until you hit 12%, with your employer contributing 3% to your account every year. So you start at 9% (including employer match) but by the time you’re 31, you’ve hit 15%.

Also, Fidelity assumes you’ll work and save continuously until you’re 67, and will die at 92. Your investments will earn an annual 5.5% along the way, and your salary will grow 1.5% a year over and above a general inflation rate of 2.3%, according to Fidelity’s assumptions.

See how much room for variation there is? If your situation doesn’t fit any of those assumptions, start recalculating. And if you plan to travel when you retire, or eat out a lot, save more. Fidelity’s goal of eight times salary at retirement focuses on basic expenses. “At a minimum, you need eight times salary,” McHugh said. “Some will need 10, even 12 times salary.”

For still another take on how much to save, Boston College’s Center for Retirement Research reports that a 25-year-old worker earning a “medium” salary (about $43,000), who starts saving at age 25 and wants to replace 80% of his salary when he retires at age 67 needs to save 12% of salary annually, assuming a 4% rate of return on investments. For those who start saving at 35, the required savings rate jumps to 18%. Those who start at age 45 must put aside 31% of salary.

Read the report Boston College’s Center for Retirement Research.

(Notably, CRR’s study says that for workers at all income levels, the effective rate of return is less important to retirement-savings success than is the age at which you start saving, and “especially, the age of retirement.”)

Not saving enough

Survey data suggests that many of us know we should save more, but many still fail to do so. More than 60% of respondents to a recent survey by Scottrade Inc., an online investing-services firm, said that saving between 6% and 19% of income annually is a good idea, but less than one-third of respondents said they were saving that much. Read more about the survey here.

There is some good news on the retirement-savings front: More people may be starting to save at younger ages.

A Scottrade survey published last year found that 51% of people aged 29 to 44 said they started to save for retirement between the ages of 25 and 34. That compares to just 30% of baby boomers who said they started saving at those ages. See that survey here."

Summing Up

To repeat, one size doesn't fit all.

That said, it's helpful to know what generally makes sense.

Then customize what makes the most sense for you.

And what always makes sense is to start the habit of living within our means early.

What also makes sense is minimizing debt as much as possible as well, including credit cards, student loans and home mortgages.

Saving and investing continuously and deferring withdrawals until as late as possible also makes lots of sense.

But knowing the relevant facts about savings, investing, debt and retirement planning, including the "Rule of 72," and then acting accordingly and appropriately from time to time makes the most sense of all.

We all need to acquire some basic degree of financial literacy and comprehension early in life.

Because we only live once, and old age comes along faster than we think it possibly can.

If I know anything, I know that.

Thanks. Bob.

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