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Forget What the Experts Say -- You Can Retire on Less Than $1 Million

By Chuck Saletta - Jan 18, 2016 at 6:04AM

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You can live a typical retiree lifestyle with a much smaller nest egg.

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Many experts try to scare you by telling you you'll need at least $1 million -- or quite possibly more -- to retire. The theory behind that is based on a belief that you'll want to keep up with an average household once you're retired. The typical Social Security benefit is around $1,341 per month, or $16,092 per year. As a result, you'd need around $40,000 per year from your investments to be in the ballpark of the median household income, which was estimated at $56,746 per year as of November. 

That $40,000 can come from a $1 million nest egg, based on a rule of thumb estimate for retirement spending known as the 4% rule. Under that rule, a retiree with a well-diversified portfolio can:

  • Withdraw 4% of his or her portfolio value in the first year of retirement.
  • Increase that withdrawal each year for inflation.
  • Have a very good chance of not running out of money before the end of retirement.

Why you probably don't need that much
The glaring problem with that line of thinking is that most retirees can very easily survive comfortably on far less than the median household income. Indeed, the chart below from the Bureau of Labor Statistics shows that households' expenditures tend to drop substantially in retirement -- with older retirees spending less than their newly minted counterparts:

Chart source: U.S. Bureau of Labor Statistics. 

There are several reasons for that drop-off in spending in retirement. Consider the following is a list of places your cash likely goes while you're working, and all of them could very well demand far less money once you're in retirement:

  • Your children -- If they're adults and able to support themselves by the time you retire, you no longer need to feed, clothe, educate, and otherwise pay for their upkeep. Of course, if your finances allow, you can feel free to continue to shower them with gifts, but that's an option, rather than an obligation of parenthood.
  • Your home -- If your mortgage is paid off, or if you're willing to downsize and/or move to a less expensive community in retirement, you can substantially reduce your housing costs. When you're retired, your commute to the office no longer matters, and if your kids are grown and independent, neither the school district nor the space to house them matter, either.
  • Your taxes -- Retirees don't pay Social Security payroll taxes, nor do they pay any Medicare-related taxes unless they have fairly high investment incomes. Additionally, several states exempt pension and/or other retirement-related income from their income taxes, and many areas offer "homestead" exemptions to reduce seniors' property taxes, as well. 
  • Your work-related costs -- Commute costs, office networking activities costs, work wardrobe costs, working lunches, and all the other everyday expenses of showing up to work evaporate the moment you retire. Sure, you still need to get around, get dressed, and eat, but you're no longer tied to the expectations and costs of your office and the immediate area around it.
  • Your health insurance -- While overall healthcare costs are generally higher for seniors than for younger adults, seniors' Medicare's insurance premiums are heavily subsidized by the Medicare payroll taxes. Depending on your pre-retirement health insurance situation, you may very well find your insurance costs falling substantially once you become eligible for Medicare.

What do you need to retire successfully?
Based on that Bureau of Labor Statistics chart, a typical household headed by someone near retirement age spends around $47,000 per year. If that household consists of one spouse receiving a retiree's Social Security benefit and the other spouse receiving a spousal benefit of half that amount, then they're getting about $24,000 annually from Social Security. That leaves $23,000 that they need to cover from other sources.

Using the same 4% rule mentioned above, that couple can cover that $23,000 annual income gap with a $575,000 nest egg -- far below the often touted $1 million. And if you're willing or able to live on less than those averages, you can cut that nest egg even further. The 2016 Federal Poverty Level for a single person is $11,770, and for a couple, it's $15,930. Keep your costs low enough, and even a typical Social Security retiree plus spousal benefit would be enough to keep you and your spouse above poverty level.

Aside from the potential of any expensive health-related issues, what you need in retirement depends on the lifestyle you want to live and how well you're able to eliminate costs from that lifestyle. If you successfully retire with independent children, no mortgage, reasonable health, and inexpensive tastes, then you don't need a million-dollar nest egg to support yourself in retirement. You can get away with around $575,000 -- or even less, depending on how low you're able to cut your basic costs.

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