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Subject:  Re: What percentage of gross? Date:  1/4/2004  1:06 AM
Author:  TMFDj111 Number:  1653 of 5245

How much are you currently saving towards retirement, as a percentage of gross?

To enjoy a comfortable, timely, secure retirement, most investors must save at least 15% of their gross incomes every year starting in their early 20s. Investors who start late, want to retire early, or want to retire in luxury must save more. If you look through posts on TMF's retirement discussion boards, you'll discover many TMF subscribers claim to save 25% of their annual gross incomes, and a few claim to save over 50% of their annual gross incomes -- in addition to what they save for houses, cars, vacations, and other immediate needs.

I know many people figure they'll save for retirement when they start making serious money or when they get closer to retirement. If you have a financial calculator or a spreadsheet, try this demonstration. First calculate the effect of saving $2,000 per year every year from your 18th birthday for eight years at 8% per year, and then never saving another penny until you're 65, but allowing your savings to compound. Then calculate the effect of saving $2,000 per year starting from your 26th birthday until you're 65, again allowing your savings to compound at 8% per year. Compare the total amount invested ($2,000 per year times eight years vs. $2,000 per year times 39 years) and the final values of the two portfolios at age 65. If this demonstration doesn't convince you to save early and often, I have no idea what will.

Here's a link to an article that contains the results of a similar calculation in a table (click on the link to Rich Man, Poor Man (The Power of Compounding)). The difference between my demonstration and the demonstration in the article is the article uses a 10% annual return (rather than 8%), and the article saves for seven years (rather than eight years).

Some people argue in retirement your income needs are less than when you're working. You're not saving for retirement anymore. You're not paying Social Security or Medicare taxes. Your children probaby are on their own. Your requirements for a business wardrobe are substantially reduced. You probably can get by with one car, rather than a motor pool.

However, in retirement, your medical expenses almost certainly will be higher. You'll probably want to spoil your children or grandchildren. You'll probably want to enjoy some of the things you denied yourself while you were working (e.g., frequent meals at restaurants and exotic vacations). You may even take up one of those hobbies notorious for consuming money (e.g., chasing a small, white ball across the countryside or trying to outwit an eight pound, 12-inch fish).

Investors can safely withdraw about 4% per year from a well-performing, well-balanced investment portfolio without cannibalizing their principal. They can withdraw a little more in years with good returns, and a little less in years with poor returns. Lower withdrawal rates are better, and much lower withdrawal rates are much better.

Another way to look at that 4% number is you must have 25 times your gross annual income in savings to retire. You can retire with less money, but you'll have to cannibalize your principal, reduce your standard of living, or reduce your expected lifetime to do it.

Retirement income needs and the timing of those needs vary from person to person, but when you do the research and crunch the numbers, you'll probably discover you have to max your 401(k)/403(b), max your IRA (and spousal IRA), and still make additional retirement investments in non-retirement accounts.

David Jacobs
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