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Are You Too Optimistic About Retirement?

By Catherine Brock - Feb 10, 2020 at 7:02AM

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Be optimistic about the day ahead or your prospects of landing that promotion. But take a more measured approach to your retirement planning.

See that glass as half-full? Always looking for the lesson in any failure? Congratulations on that upbeat perspective, optimist. There's just one thing -- it's wise to temper that rosy outlook when evaluating your retirement readiness.

Fidelity's recently published 2020 Retirement Savings Assessment evaluates Americans on how well they've prepared for retirement. As part of that evaluation, Fidelity asked respondents to weigh in on their own situations. Interestingly enough, 60% of respondents said they were on track for retirement, but Fidelity estimates that only 54% are truly on the right path. And even though most respondents were confident in their retirement prospects, they also admitted to not knowing how much money they'd need to retire. That over-confidence could force a rude awakening when these prospective retirees realize they may outlive their savings.

Woman smiling while looking at her computer.

Image source: Getty Images.

Now's the time for a retirement reality check. You can't know if you're on track for retirement unless you know how much money you'll need to survive without a paycheck. You can and should estimate your target retirement savings balance now -- even if it feels like a guess. The reason? What you save today heavily influences how much wealth you can build in the future.

Your estimated retirement living expenses

As a first step, do some rough calculations to estimate your living expenses in retirement. The table below shows a basic formula for living expenses that starts with your current take-home pay.


Item Details

Take-home pay

You can start with your take-home pay as long as this amount funds your current lifestyle without debt.

Subtract work-related expenses

Subtract parking fees, money spent on professional attire, gas expenses for a long commute, lunches at the deli downstairs from your office, and any other work-related expenses.

Subtract mortgage

Subtract your mortgage if you intend to pay it off before retiring. Only count the principal and interest portion of your payment, since you'll still owe the taxes and insurance.

Add entertainment expenses

Estimate how much more you'll spend on travel and entertainment in retirement and add that to your running total.

Add estimated taxes

Your Social Security benefit may be taxable. Qualified 401(k) and traditional IRA distributions are taxable at your normal tax rate. Estimate these and add them to your total.

Add 5% for an emergency fund

Even in retirement, your car breaks down and your dishwasher needs repair. You can manage these extra expenses by maintaining an emergency fund. Add an emergency fund contribution to your running total.

Equals: estimated monthly retirement expenses before healthcare

Your result is a rough estimate of your retirement living expenses before healthcare.

Data source: Author. IRA = individual retirement account.

After making the above adjustments, you have one more item to factor in, and it's a doozy. Let's talk about healthcare costs in retirement.

The wild card: healthcare expenses 

Medicare will not spare you from out-of-pocket medical costs. Even Medicare Part A, which provides premium-free hospital coverage, has deductibles and coverage limitations. Also, you will pay premiums to supplement your Part A coverage with medical insurance (Part B), a Medicare Advantage Plan, and/or Medicare prescription drug coverage (Part D).

In addition to those premiums, you'll also face deductibles, copayments, and coinsurance -- all of which are hard to predict. Thankfully, researchers have done some number-crunching on this topic. The Center for Retirement Research at Boston College estimates the average retiree spends about $4,300 annually on medical costs. The equates to $358 monthly.

Note that this estimate does not include long-term care. According to insurance company Genworth, these costs can range from $4,385 monthly for a home health aide up to $8,517 monthly for a private room in a nursing home.

Add at least $400 to your estimated monthly retirement living expenses for healthcare. If you use less than that in the early years, you can save it to your emergency fund and use it later.

Retirement income based on savings balance

Once you have a rough idea of your retirement living expenses, you can use that number to figure out a target savings balance. The table below shows you different-sized portfolios, how much you need to save to accumulate that amount, and how much you can withdraw from that portfolio in your first year of retirement.

Retirement Portfolio

Monthly Savings Required for 20 Years at 7% Growth

First-Year Annual Income
in Retirement
















Calculations by author.

The savings column assumes you're saving in a tax-deferred account that earns 7% annually. The income column assumes you withdraw 4.5% of your portfolio balance in that first year. Thereafter, you could adjust your withdrawals to keep pace with inflation. This line of thinking comes from the 4% rule -- later updated to the 4.5% rule -- as developed in the '90s by financial planner Bill Bengen. Bengen ran scenarios based on historic stock market performance to determine a withdrawal rate for retirees that would keep them solvent for 30 years. In his analysis, Bengen assumed the retiree portfolio contained 50% U.S. equities and 50% intermediate-term bonds.

Admittedly, that's a lot of assumptions -- which could mean these numbers are irrelevant to your situation. But as a rough marker, compare these first-year income levels with your estimated living expenses in retirement. Do you need at least $70,000 annually, not including your Social Security, to live comfortably? Then you're looking at a target savings balance in excess of $1.5 million.

Increase your savings contributions

Did you just confirm that you're being too optimistic about retirement? You wouldn't be the only one. Don't freak out. Just increase your savings contributions today, and then keep looking for opportunities to increase them in the future. You're an optimist, after all. You'll make it work.

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