One of the most stressful personal finance questions you ever need to face is one that won’t affect you for years. For some, it’s decades. How much money will you need when you retire? Many a financial adviser and expert have tackled this question, with hefty hourly fees, on behalf of their clients but I think, as with anything that involves predicting the future, you can do this yourself with a reasonably good degree of accuracy. Plus, I’d be willing to bet that this is the same approach that many advisers use when they work with their clients.

A quick disclaimer – I’m not a retirement expert (nor do I pretend to be) but I’ve read enough about it to have a reasonable idea of how to approach this question.

## How Much Do You Need Annually?

In order to calculate how much you need to save into a nest egg for your retirement, you need to start with how much money you’ll need to withdraw from that nest egg each year. If you can live off $40,000 a year in retirement, you’ll need less than if you need $80,000 a year in retirement – that’s simple math. The hard part is figuring out whether you’ll need $40,000 or $80,000 but here’s how you can start.

Think about what you want your lifestyle to be when you retire. Do you want to travel the world? Do you prefer to stay at home and work on some fun hobbies? Are the hobbies expensive (golf) or relatively cheap (watching TV)? Remember that you’ll stop working, so that’s an additional 8-10 a day that you’ll need to fill up. Will you fill it up with volunteering or shopping?

Try to build a budget for your retired self in today’s dollars and then use calculators to adjust for inflation. I’d calculate two numbers, one with 3% inflation and one with 5% inflation, and use those as your lower and upper bound, respectively. This is probably the hardest part of the process because you need to think about what you’ll do decades from now – will you still be paying back student loans? What about a mortgage? Car payment? Medical bills? Helping out your kids or grandchildren with bills? School?

Let’s say you need $40,000 a year in 2012 and you’ll retire in 30 years, so adjusting for inflation of 3% and 5%, you believe you’ll need $97,090 to $172,877 a year in retirement. (wow)

## How Much Do You Need to Save?

There are two parts to your nest egg. The first part is something that you have no control over – pensions and Social Security. For every year you work, you make a contribution to Social Security. Sometime in retirement, you’ll start getting a check from the Social Security administration. The same will apply to a pension, if your employer offers one. The first thing you need to do is figure out what those figures amount to on an annual basis and deduct that from your annual retirement expenditure of $97k-$173k. Let’s say, for simplicity’s sake, you’ll get around $30,000 between the two. This leaves you with a need of $67k-$140k per year.

**4% Rule:** The 4% rule is a widely accepted rule of thumb for how quickly you can draw down your retirement savings and still expect it to last your lifetime. If you only withdraw 4% of your retirement nest egg each year, it should last you the remainder of your life. Between appreciation, dividends, and interest, your nest egg should be able to handle a 4% reduction each year. Will it? That depends a lot on actual results and you may need to adjust your own plan on the fly but it’s a good place to start. IF you need $67k-$140k a year, the 4% rule states that you nest egg must be $1,675,000 to $3,500,000.

So in thirty years, you will need a nest egg of approximately $1.65 million to $3.5 million.

## This Seems Too Simple

It is simple. It’s always easy to put up the goal posts, it’s much harder to kick the field goal. The hard part in all this isn’t determining how much money you need to save, it’s in saving the money. $1.65 million is no small sum of money and accruing that over the span of 30 years, assuming no appreciation, demands that you put away $55,000 a year, each year. That’s extremely difficult.

If, instead, you were to put it away in an appreciating asset, like shares in the stock market, then you need to save less (assuming the asset appreciates). Assuming 30 years, appreciation of 7% a year, you would need to contribute just $17,467 a year ($1455/mo) to reach $1.65 million in 30 years. If you can achieve 10% returns, the annual contribution drops to just $10,030 – or $835 a month. Those are much more manageable than $55,000 a year. 7-10% returns over 30 years is a tall order but it shows the power of starting early and compounding interest ^{[3]}.

How much do you think you’ll need to retire?