How much are you saving for retirement? Experts recommend socking away at least 10% of your salary, but a recent report from the Plan Sponsor Council of America (PSCA) suggests many Americans are short of that benchmark.
The PSCA, which helps employers manage their retirement plans, concludes that the average American worker contributes just 7.6% of income to a workplace retirement plan. And you have to wonder: Is that enough to secure a comfortable retirement?
As you'll see below, a deeper dive into the numbers suggests it is possible to fund a decent retirement by contributing less than 10% of your salary, though there are some major caveats. For one, you need to start saving in your 20s. You also need to be earning more than 5% in employer matching contributions.
And even then, you won't have any financial leeway to handle unexpected circumstances. That's a tough one, because there are many factors that could derail your savings efforts and your financial security, like health issues, financial-market and economic cycles, and unexpected changes in your job.
Saving at a higher contribution rate adds flexibility to help you deal with those uncertainties. But if times are tight and you can only afford a contribution of around 8%, here's a peek at what your retirement might look like.
Projected income from retirement savings
Let's say you make $54,236 a year, which is the mediansalary for a worker age 25 to 54. The PSCA report pegs the average employer matching contribution at 5.3%. That, combined with your 7.6% contribution, puts nearly $7,000 annually into your 401(k). Invest those contributions mostly in stocks to earn an average of 7% annually, and your retirement account balance should grow to about $665,000 over 30 years.
That $665,000 in retirement savings should provide income of $23,000 to $27,000 a year. That's based on the idea that it's safe to pull out 3.5% to 4% of your savings balance each year in retirement. At that distribution rate, your money should last as long as you do -- even through bear markets and rough economic cycles.
Social Security income
You should also have Social Security benefits coming your way to supplement your income from savings. In its current form, the program replaces about 40% of income for the average worker. This guideline holds only if you wait until you reach full retirement age (FRA) to claim your benefits. Claim earlier than that and your benefits will be lower. Assuming you were born after 1959, your FRA is 67.
On an annual salary of $54,236, 40% equates to about $21,700.
Total projected income in retirement
Assuming you pull $25,000 annually from your savings and you receive $21,700 from Social Security, that adds up to total retirement income of $46,700. It may not sound like a lot, but it is 86% of the working salary we started with. If your living expenses go down slightly in retirement because you've paid off a mortgage or you're no longer making retirement contributions, you could possibly squeak by on 86% of your working income. But it's a tight fit: So tight that this plan doesn't allow for some fairly common scenarios.
Things that can go wrong
Here are five of those common scenarios, any one of which could break your retirement plan.
- You have less than 30 years to save. If your timeline is shorter than 30 years and you haven't already been saving, you'd have to contribute far more than 7.6% of your income to amass enough savings to supplement Social Security sufficiently to cover your living expenses.
- Your employer match is lower than 5.3%. A lower employer match would require a higher contribution from you to reach the target savings balance.
- You have to retire early because of work or health issues. If you retire early for any reason, your Social Security benefits will be lower. That reduction can be as high as 30%. The earlier you claim, the bigger the reduction.
- You have an emergency and have to take funds from your retirement account. If you borrow or withdraw any of your retirement plan funds, you'd have to increase your contribution rate substantially to get back on track with your plan.
- Medical expenses in retirement raise your cost of living. You might find that the 86% income replacement isn't enough. There can be various reasons, but high medical expenses are a common culprit. You can hedge against this by contributing additional amounts to a health savings account.
Save more than you think you need
For most savers, the average 401(k) savings rate of 7.6% isn't going to be enough. The numbers might barely work on paper, and only for younger workers. But the margin of error is too slim to provide any peace of mind.
If you can, target a savings rate of 10% to 15%, not including your employer match. If that's not doable, plan to increase your contribution rate annually or whenever you get a raise. The sooner you start that habit, the easier it will be to secure that comfortable retirement you want.