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No. of Recommendations: 7
A simple formula for the size of a nestegg that you shouldn't outlive is [(Annual Retirement Income needed in the first year of retirement)/(%rate of return on investment minus %inflation rate average estimate)]+1 Income.

Here is an example: Lets say I think I can live on \$50,000/year (before taxes)when I retire in 2005. I assume that my investments will average 8% annually and inflation will be 3%. If all of my assumptions are correct, I need [\$50,000/(.08-.03)]+\$50,000 = \$1,050,000 in my nestegg.

The first year I withdraw \$50,000, then 2nd year I withdraw \$51,500 (3% inflation adjustment)etc. This can go on forever as long as my assumptions hold.

I'm a little concerned about getting 8% on my money year after year, so my personal strategy is to have 75% of my nestegg in stocks and 25% in laddered 5 year bonds. I can then live off the selling of bonds and their interest stream for about 6 years if need be. Most stock market downturns have recovered within 6 years.

Put in any estimates you want for rate of return, inflation, and retirement income. For me, I keep coming up with a nestegg that is 20 times my first year's retirement income.

This is a conservative strategy that will leave an inheritance for somebody but it also provides some cushion when life doesn't go as planned: eg. higher inflation rate, lower rate of return on investment, unexpected medical expenses, children in need of money, etc.

There are a lot of other factors that I have ignored in this formula. If a lot of your retirement income is from captal gains, you won't need quite a much income (lower taxes). Social Security (if still around) can reduce the required size of your nestegg and it adjusts for inflation. A typical pension plan or annuity from a 401k plan will pay a fixed amount periodically but is usually not adjusted for inflation. Moving to a state with higher or lower income taxes will affect your retirement income needed.

Determining your requirement income is also a challenge. I look at my current salary and subtract off retirement savings. I then adjust that "current lifestyle" income for more vacations, higher medical expenses, paid off home loan and inflate that figure for the year that I expect to retire if it is more than 2 or 3 years in the future.

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