There's no one-approach-fits-all method when it comes to retirement savings. Different people will require different things. However, some guidelines help provide guidance and lead you in the right direction. This rule of thumb can help determine how much you'll need in retirement.
Maintaining your current lifestyle in retirement
Retirement doesn't have to mean an abrupt lifestyle change -- especially if the cause is financial. While some aspects of your life will inevitably change in retirement, there are rules of thumb you can follow to help ensure you can maintain your current lifestyle. It begins with the 80% rule, which states that you should try to have 80% of your annual pre-retirement income in retirement. If you currently make $100,000, aim for $80,000; if you currently make $120,000, aim for $96,000; If you currently make $150,000, aim for $120,000.
Of course, not everyone will be interested in maintaining their current lifestyle in retirement. Even so, the 80% rule is a good baseline to begin for many people. If not for guidance on the annual income you may need, then at least for its role in helping people decide the total savings they should aim for in retirement.
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Combining the 80% rule and 4% rule
While the 80% rule is focused on the annual income you may need in retirement, you can get a good idea of the total savings you'll need when you combine it with the 4% rule. The 4% rule states retirees should plan to withdraw 4% of their retirement savings each year for 30 years without worrying about outliving their money.
To calculate your ideal retirement savings using the 4% rule, multiply 25 by your yearly income required in retirement. So, using the 80% rule, if your preretirement income is $80,000 -- meaning you'll likely need around $64,000 annually in retirement -- you would ideally have $64,000 times 25, or $1.6 million saved up for retirement.
It's also important to consider inflation when using the 4% rule. You should plan to withdraw 4% the first year, then adjust your withdrawal amount based on inflation each year after. If you saved $1.6 million for retirement, you'd withdraw $64,000 in your first year. If inflation rose by 4% the next year, you'd withdraw $66,560.
Getting to your ideal retirement savings
For most people, getting to their ideal retirement savings won't happen using a single method; it's important to take advantage of the different retirement accounts available. A 401(k) plan is a bit more obvious because it's employer-sponsored and many jobs offer them, but even a 401(k) plan alone may not suffice. Using accounts such as IRAs is important.
A traditional IRA is similar to a 401(k) plan in that the tax benefits are on the front end. Depending on your income, you may be able to deduct your contributions from your taxable income for the year. You receive the tax break up front, so you'll be responsible for paying income taxes on your retirement withdrawals. Because of this, anyone who's at the height of their career and is likely in their highest tax bracket should take advantage because they'll likely be in a lower tax bracket when they have to pay taxes in retirement.
A Roth IRA operates the opposite because you contribute after-tax money into your account. Since the money you contribute has already had taxes paid on it, it gets to grow and compound tax-free, and you won't have to pay anything when you receive withdrawals in retirement. Due to the tax break being on the back end, you should consider using a Roth IRA if you're early in your career because you'll likely be in a higher tax bracket near retirement.
Use your resources
Utilizing the resources given to you and taking advantage of the tax breaks that retirement accounts provide are efficient ways to push you closer to your retirement savings goals. They each have their own pros and cons, but the pros always outweigh the cons. With consistent and intentional saving and investing, your goals will be more attainable than you may have imagined.
