What Does Your Retirement Savings Rate Need to be?

Photo by Suad Kamardeen on Unsplash

You’ve likely heard that everyone should be saving 10% of their gross income toward retirement. This is sound advice and anyone would be better off following it; however, it can also be misleading. One’s “retirement success” (loosely defined as having enough money to cover your expenses throughout retirement) is in part a function of how much is saved, but there is much more at play here.

JP Morgan Asset Management’s recent Guide to Retirement presentation highlights another crucial element. Take a look at the two charts below. They show the annual savings rate needed if starting today based on certain levels of household income. [Note: It’s important to identify the charts’ assumptions including pre-retirement and post-retirement investment returns of 6% and 5% respectively, a 2% inflation rate, a retirement age of 65, and retirement lasting 30 years.]

Source: JP Morgan Asset Management Guide to Retirement

https://am.jpmorgan.com/us/en/asset-management/gim/adv/insights/guide-to-retirement?ck_subscriber_id=738828427

The charts clearly show that when starting at a young age your savings rate can be anywhere from seven to ten percent (for those earning less than $100k per year). The savings rate required drastically increases, however, as the starting age increases. Notice someone starting to save at age 40 earning $70k per year needs a savings rate more than twice as much as that same earner starting at age 25.

These charts highlight the crucial factor of TIME in investing. It’s almost devious how it can sneak up on you, and the subsequent catching up that needs to be done if you’ve fallen behind.

A favorite chart from a seminar of mine illustrates this another way. Two investors are shown below. Each saves the same amount of money, receives an annual return of 8% and retires at age 60. Investor #1 starts investing at age 25, saves for 10 years, and stops. Investor #2 starts at age 35, saves for 25 years, and stops. Which investor has more money? Investor #1 ends up with $615,000 while Investor #2 ends up with $431,000--a 42% difference.



Time is the only variable that changed between these two investors, and the impact was enormous.

So if you or someone you know is behind, what is to be done? Some investors might try to catch up by trying to outperform the market, but research has overwhelmingly shown that outperforming the market is extremely difficult to do over long periods of time--even for the well-paid professionals.

Still, other than boosting that savings rate to 20%, 30%, or even 50% to catch up, there are other reasonable courses of action.

Delaying retirement by a year or two can make a tremendous impact on your retirement success. This comes in two ways. First, if you delay retirement then you’re still in the workforce--earning and saving. Second, if you’re still working then you’re not taking withdrawals from your retirement accounts, allowing them to continue to grow.

Another factor is to simply plan to spend less in your retirement years. In most cases this will happen anyway. JP Morgan’s savings charts appear to assume that one’s retirement spending will be the same as their pre-retirement spending. It would be great to have just as much money to spend in retirement as before retirement, but research shows that in most cases retirement spending drastically decreases, by 20 to even 40% of pre-retirement spending. Why? Some of the reasons tend to include:

  • Mortgage is paid off before retirement or shortly thereafter

  • Taxes tend to decrease due to favorable Social Security taxation laws (only a maximum of 85% of one’s Social Security benefit is taxed and most Americans’ Social Security benefit is low enough that it’s tax free)

  • Work-related expenses drop significantly due to less need for traveling to and from work and professional work clothing

  • Food consumption tends to decrease as you age

I hope this review of savings rates and their impact on your retirement success is helpful. What do you think? Are you feeling behind on your retirement savings, or thinking you’re on track? If you’re behind, what other solutions seem feasible to you (such as delaying retirement or planning to spend less in retirement)? Leave a comment below!