Money: Retirement

I've been inspired recently by a blog I've been subscribing to (Millionaire Mommy Next Door) to start discussing finances and financial issues more. I'm a bit of a financial junkie, probably owed in part to my father, who was a lifelong accountant... on and off the job! But I'm thankful that my dad instilled in me an interest in money and frugality. It's coming in handy!

I wanted to begin my financial discussions by starting at the end: retirement. How much money does a person (or household) need? One general rule of thumb is that you need 25x your annual expenditures. I've read articles that peg this number as high as 30x. I think this assumes a "normal" retirement age in your mid-60's. So if you are going to retire at 63 and your expenditures (or expected expenditures) are $50K/year, you'd need $1.25 million to retire. There are at least 2 dials you can play with in this case.... you can save more money to retire earlier, or you can reduce your expenditures to require less money saved.

I have found a new favorite article on the subject here. This article approaches the problem by looking at withdrawal rates... ie: what percentage of your nestegg can you withdraw each year (adjusted for inflation, of course!) and still have your money last through your retirement? The article looks at historical data and shows you how long your nest egg would have gotten you at various withdrawal rates had you retired sometime between 1926 and 1976 (the article was written in 1994). Another nice thing here is it's not concerned with the actual _amount_ of your nestegg... it's working on percentage withdrawals of your nestegg. In other words, if your nestegg is $1 million or $100k, it doesn't matter as long as you withdraw the same _percentage_, not the same amount.

There are several conclusions from the article worth noting if you don't feel like reading it.

1. The worst financial disaster that has happened in the past (from a retiree's point of view) is not the great depression... it's the recession of the early 70's. This is because in addition to a reduction in the value of stocks, inflation was out of control and severely reduced the purchasing power of the retiree.
2. A "safe" withdrawal rate is 4%. 3% is extremely conservative and 5% could get you in trouble if certain things happen.
   
3. An ideal stock/bond mix is between 50/50 and 75/25. It makes less sense to hold more than 75% stocks in retirement and no sense to hold less than 50% stocks, contrary to conventional thinking.

Using an initial withdrawal rate of 4% on $1.25 million, that means $50K... or 25 times your expenditures. Sounds like the rule of thumb works out! I think I can live off of 30K pretty easily (that's 30K post-tax) right now... maybe I can retire w/ $750K!

Next time, we'll talk compound interest.