Why you’ll outlast your money

Written on May 17, 2010 – 8:44 pm | by Adam Gomez

Writing about America’s abysmal retirement savings rate is tricky.

Mention the substantial sums needed for a comfortable retirement, and many people simply give up. The amounts seem so vast and their ability to save so minimal that they don’t even get started.

Whitewashing the issue isn’t the answer, though. The truth is that unless something changes, big chunks of Americans are going to be in a world of hurt when they can no longer work.

And the frustrating thing is that it wouldn’t take that much effort for most people to dramatically improve their odds of having enough money in their final years.

Let’s look at the latest grim statistics:

Hewitt figures that workers without traditional pensions would need to save 15.7 times their final annual pay to maintain their current living standards. Social Security, as currently structured, would provide benefits averaging 4.7 times pay, the Hewitt study said, leaving workers to come up with a nest egg equal to 11 times final pay.

(Figuring your final pay involves a guesstimate, but a rough rule of thumb is that, with 3% annual raises, your annual pay will double every 24 years. So someone earning $50,000 at age 40 would expect a final annual salary of about $105,000 at 65 and need a nest egg of a little more than $1.1 million.)

Hewitt came up with its estimate by adjusting pay levels to account for post-retirement inflation as well as lower tax and savings rates (most people won’t be saving for retirement once they’re in retirement). The figure also captures higher medical costs after retirement.

People who retire with too little money saved can make their money last by chopping their spending. But it’s unlikely many will, because:

So it’s pretty clear that if things continue as they are, a whole lot of people will run through most of their savings before they’ve run out of life.

You can quibble with anyone’s estimate of retirement income needs, since there are so many variables involved, including how long someone will live and in what state of health; the inflation rate, both in general and for medical costs; and how investments will perform.

A few financial planners have criticized traditional retirement estimates as being too high. They say most people’s spending falls over time in retirement, rather than rising as most calculations assume. But it’s hard to argue with the idea that we’re not saving enough. The EBRI numbers speak for themselves, and Hewitt’s study may even be a bit optimistic. After all, Hewitt studied only people who had access to large-company retirement plans, which typically include investment matches. Hewitt also assumed Social Security benefits won’t change; the younger you are, the less you should probably expect to get from the system.

Other important points from the Hewitt study:

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