It's no secret that many workers' retirement plans are off track. More than half (56%) of Americans older than 30 have nothing at all saved for retirement, according to a report from the Federal Reserve Bank, and of those workers with no savings, around one in 10 is age 60 or older.
Not having anything stashed away for retirement is dangerous, but if you know you're off track, you can make corrections early to start saving more. What's more worrisome is the idea that you may think you're prepared for retirement when you're actually not. If you believe you're on the right track to have enough saved for the future, you probably won't even realize you're not prepared enough until you reach retirement -- at which point it's too late to make corrections.
Of soon-to-be retirees aged 45 to 59, 42% say their retirement savings are on track, according to the Fed report. That sounds like great news, but there are two problems with this scenario. First, when asked what dollar amount these workers see as being "on track" for retirement, the response was $250,000. Second, despite nearly half of these workers claiming to be on track, only 27% actually had $250,000 or more saved for retirement.
A quarter of a million dollars is a lot of cash, but it's likely not enough to last through retirement -- even with Social Security benefits cushioning your savings. Retirement may be more expensive than you think, and if you're not preparing accordingly, it could cause some sticker shock.
How much retirement really costs
How much you'll need to save for retirement depends on many factors -- such as your expected lifestyle in retirement and your general health -- and everyone will have a slightly different retirement number. In general, though, you need more than you think.
The average person age 65 and up spends around $46,000 per year, according to the U.S. Bureau of Labor Statistics. If you expect to spend around that much each year in retirement, you'd need to save around $1.15 million by the time you retire. This number is based on the 4% rule, which, in a nutshell, explains that you can withdraw 4% of your retirement fund during year one of retirement, then adjust your withdrawals each subsequent year for inflation. So in this scenario, 4% of $1.15 million equates to $46,000. To work backward, multiply $46,000 by 25 to calculate a result of $1.15 million.
Of course, these figures don't account for Social Security benefits. The average Social Security check amounts to around $1,400 per month, or $16,800 per year, according to the Social Security Administration. If your total annual expenses amount to $46,000 and $16,800 comes from Social Security, that means only $29,200 needs to come from your own savings. To determine how much you need to save by the time you retire, multiply that number by 25 to get a result of $730,000.
That's still a lot of money, and it's nearly three times as much as those who think they're on track have saved. If you're aiming to save a quarter of a million dollars by retirement and then suddenly realize you'll need around three times that much to live comfortably, aside from winning the lottery or inheriting a small fortune, there's not much you can do to bridge the gap.
Preparing for the future one step at a time
The best way to prepare for retirement is to do your research and determine just how much you need to have saved so your money will last the rest of your life. Don't just wing it and hope for the best.
Start out by creating a retirement budget to figure out just how much you expect to spend each year. You may end up spending more or less than you do now, so take the time to think about how your retirement expenses will compare to your current lifestyle. Don't forget about healthcare expenses during this step either. Medicare will cover a lot, but it won't cover everything -- so be prepared to fork out some of your savings for healthcare.
Next, use your budget to calculate your retirement number. You can do this manually by using the 4% rule, or you can plug your information into a retirement calculator. Your results may be different with each calculation, and that's OK. In fact, it's a good idea to use multiple retirement calculators to get a range of results, as each calculator may use slightly different inputs to determine your retirement number. When in doubt, aim to save more -- it's never a bad thing to have more money than you need in retirement. Most calculators show you how much to save each month to reach your goal by retirement age.
Once you have that number, establish a saving plan. If you have a company-sponsored 401(k) that offers matching contributions from your employer, take full advantage of it. Those matching contributions can double your savings, and it's an easy way to save more with minimal effort. Don't give up this free money!
If you're struggling to come up with enough cash to meet your monthly saving goal, take a look at your budget and see if there are areas in which you can cut costs. Even shaving a few dollars in each spending category can amount to an extra hundred dollars or so each month, which can go a long way toward preparing for retirement.
If after taking a fine-tooth comb to your budget you're still coming up short on cash to save, you have a couple of options: Find a way to earn more income now to put toward retirement, or rethink your retirement expectations. You may need to work a few years longer than you had anticipated, or you might have less to spend each year in retirement than you'd hoped. That's OK, but it's important to be honest with yourself about your expectations so you're not blindsided when retirement approaches.
Retirement planning isn't easy, and simply saving what you can and hoping for the best may or may not work out in your favor. But the clearer the picture you have about what it takes to retire comfortably, the more prepared you'll be.