"How much should I save for retirement?"
It's one of the simplest retirement questions out there, yet one of the most difficult to answer. There's no one-size-fits-all approach for how much to save for retirement, because there are a slew of factors involved.
Your retirement number -- or the amount you should have saved by the time you retire -- depends on your current income, the amount you think you'll need each year in retirement, what you're going to be receiving in Social Security benefits, whether or not you have a pension, etc. So it's no surprise that when workers were asked how much they think retirement will cost, the answers were all over the map.
A quarter of Americans recently surveyed by American Advisors Group said they expect to need at least $1 million saved to retire comfortably. Roughly another quarter think they'll need less than $100,000, and 7% of that group predicted they'll need less than $25,000 to last through retirement.
The truth is there's not necessarily a right or wrong answer to this question. While it would be pretty tough for most people to spend decades in retirement with less than $25,000 in savings, it could be possible depending on your lifestyle and other sources of retirement income. For other people, $1 million may not be nearly enough to last through retirement.
So how, then, are you supposed to figure out how much you should be saving? Nobody can predict exactly what they'll spend in retirement, but there are a couple of methods that can get you in the ballpark.
Calculating your unique retirement number
One of the quickest ways to get a rough estimate of how much to save is to use the rule of 25. This guideline is based on the 4% rule, which says you can withdraw 4% of your total savings during the first year of retirement, after which you adjust your withdrawals to account for inflation. The rule of 25, then, allows you to work backwards to figure out what your total savings should be.
First, estimate how much you expect to spend each year in retirement. This may be more or less than what you're spending now, so look at your budget to see which expenses may increase or decrease once you retire. Then, once you have a number in mind, multiply it by 25. The Bureau of Labor Statistics reports that the average American age 65 and up spends around $46,000 per year, so using that as a guideline will give you a retirement number of $1.15 million. To check your work, 4% of $1.15 million should come out to $46,000.
There are pros and cons to this approach to calculating your retirement number. The pros are that it's quick and easy and will give you a general idea of the number you should aim for. But this calculation isn't the most accurate. For one, it doesn't consider Social Security benefits or any other types of retirement income, and it also doesn't factor in any income from your spouse.
While it still won't be exact, plugging your information into a retirement calculator can provide a more accurate estimate. Each calculator uses a slightly different algorithm for determining your results, though, so it's a good idea to test a few different calculators to get a range of answers.
Factors that can skew your retirement number
No matter how diligently you prepare, there are two major factors that can throw a wrench into your retirement plans: healthcare costs and long-term care.
Two-thirds of Americans surveyed by the Nationwide Retirement Institute reported feeling worried about what healthcare costs could do to their retirement savings, and those concerns are understandable. It's difficult to plan for healthcare costs, because they can be unpredictable. You may be physically fit and don't expect to spend much on healthcare, but a nasty accident and the resulting hospital stay can cost thousands of dollars -- and wreck your retirement budget. Also, Medicare won't cover all your healthcare needs, so you'll still face out-of-pocket expenses in retirement even with insurance.
Long-term care is another expense that can potentially throw off your retirement plans. Roughly 70% of people turning 65 today will need long-term care at some point, and it's incredibly expensive -- to the tune of around $7,000 per month for a nursing home. It's also impossible to predict how much care you'll need. While the average person who requires long-term care needs it for about three years, according to the U.S. Department of Health and Human Services, one in five 65-year-olds will need it for at least five years. If you're paying $7,000 per month for care, an extra year or two in a nursing home could cost tens or even hundreds of thousands of dollars.
Although there's no way to predict exactly how much you'll need to spend on healthcare and long-term care, try to do the best you can when saving for retirement. Take advantage of resources like health savings accounts and long-term care insurance to help prepare for the unexpected, and if in doubt, aim to save more than you think you'll need. That's easier said than done, but the extra effort now will pay off down the road when you're enjoying a comfortable, stress-free retirement.