Retirement planning is a complicated process, but an important one. Unfortunately, many Americans are making some fundamental mistakes that could end up costing them.
If you're harboring any of these misunderstandings, you may find yourself with insufficient savings that leave you struggling. So make sure you learn the truth now while there's still time to make a solid plan for a more secure future.
1. Misconception: You need five times your final salary -- or less -- to be ready for retirement
According to Fidelity's study on the 2021 State of Retirement Planning, around half of survey respondents believe they'll need five times their final salary or less in the bank in order to be ready for retirement. This is a major underestimate, as most experts recommend having 10 to 12 times your final salary invested before leaving the workforce. Just 25% of people were correct in assuming they'd need a nest egg with a value of at least 10 times their earnings to produce enough income.
If your final salary is $50,000 and you assume you'll require just five times that amount, you may expect you can comfortably get by with savings of $250,000 as a senior. In reality, such a small nest egg could only safely produce around $10,000 in annual income. Even when combined with Social Security (which has an average benefit of $1,657 per month in 2022), you'd likely end up cutting your take-home earnings almost in half if you saved that little.
You can't afford to underestimate your retirement savings goal by so much, so be sure to set a realistic estimate for how much you should have saved to live comfortably in your later years. Sticking with the recommended 10 to 12 times your final salary is a simple approach to determine the required amount, or you can explore other ways to set your target number.
2. Misconception: You can withdrawal 10% to 15% of your retirement nest egg each year
While most people underestimate the amount they should save, many also overestimate the income their investments will provide. In fact, 28% of people responding to the Fidelity survey said they believed they could safely withdrawal between 10% and 15% of their retirement investment portfolio each year after leaving the workforce.
If you withdraw too much from your retirement accounts too quickly, you'll end up draining your accounts dry and having nothing left to live on. And withdrawing between 10% and 15% of your accounts -- as over a quarter of Americans think they can do -- would definitely mean you'd be taking too much money out.
Following the 4% rule would be a safer bet, as this rule stipulates you can take 4% out of your accounts in the first year of retirement and increase withdrawals each year based on inflation. But even this could leave you falling short, so you may want to consider other approaches such as following the withdrawal schedule established by the IRS in the tables used to set Required Minimum Distributions.
3. Misconception: The market has seen more negative returns than positive ones
Fidelity's study showed that 72% of survey takers thought that the past 35 years had been a bad period in terms of market performance. This majority of Americans thought the stock market had seen more negative returns than positive ones during this time frame. In reality, in 26 of the last 35 years, the annual market return has been positive.
Unfortunately, this misconception could make people too afraid to invest enough even though putting money into the market is actually the best way to grow the nest egg you need. Rather than being scared of investing, those preparing for retirement should research how to build a portfolio of safe investments such as ETFs or a diversified pool of stocks of individual companies in different industries.
By learning the truth about these major misconceptions, you can make plans for the future that actually set you up for the retirement security you deserve.