Can You Save Too Much For Retirement?

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Nest EggLife is often about balance. It’s about balancing the instant gratification of today against future rewards. It’s about enjoying life now versus saving enough for later so that your life can be just as enjoyable after you retire. It’s very difficult to know where that line is because it’s difficult to predict the future. Will taxes go up? How much will inflation be? How much do I need in retirement to continue my lifestyle? With so many questions, spread out across so many years, it’s hard to know if you’re saving too much or too little unless you do a little planning.

Most retirement investment planning, at least when you’re in your early twenties, focuses on two accounts – a 401(k) and an IRA, typically a Roth IRA. The contribution limits are $16,500 for the 401(k) and $4,000 for the IRA, higher if you are permitted a catch-up contribution due to your age. If you were to max out your contribution to both, that’s a hefty $20,500 a year towards your retirement. That’s a lot of money for anyone to be contributing and I’d argue that contributing $20,500 each year until you retire is too much. Unless you make a lot of money, contributing that amount will put a significant strain on your current lifestyle and that’s a tradeoff that you may not want to make.

Here’s how I approach my retirement planning.

Calculating How Much

How much will you need in retirement? Ask ten people and you’ll get ten numbers. They will all be wrong. I do something simple, I calculate how much money I need to live on today and use the 4% rule. The 4% rule is a retirement rule of thumb that says you can only spend 4% of your nest egg each year if you want it to last for the rest of your life. With appreciation and interest, a 4% drawdown is ideal. That means if you want $40,000 a year in income, you’ll need a $1 million in retirement savings. If you want $80,000 a year, that’s $2 million. Calculating how much you need will depend on your lifestyle, so that’s up to you.

From there, you’ll want to set the finish line at 65 (or whenever), and calculate how much you need to save each year in order to reach that number. Then, calculate how much those savings will grow given rates of appreciation (minus inflation). You can use whatever growth rate you feel comfortable with, I personally use 7% (and 3% inflation). That will give you how much you need to save each year.

Front Load Contributions

My strategy has been to front load my contributions. In the first few years I was working, I contributed as much as I possibly could to both my 401(k) and my Roth IRA. With investing, time is your best ally and you’ll want as much money in the pot as early as possible in order to take advantage of time. I maxed out my contribution for two years before tapering back because I wanted to buy a house. By going full throttle on contributions early, I was able to build up a nice nest egg that can grow on its own.

If you use this strategy, rather than equal contributions each year, remember to recalculate your annual savings needs so you don’t overshoot your target. If you need to save $8,000 a year annually and you contribute $20,000 now, your annual savings needs will go down significantly.

Get Free Cash

At a minimum, I will always contribute enough to get any company match on my 401(k). If your employer offers you a match of any kind, take advantage of it. My first employer offered an extra 3% if I contributed 4% (full match on the first 2%, half match on the next 2%) and I always contributed at least the full amount. Who turns down free money?


One point I purposely overlooked was taxes. Contributions to your 401(k) are tax deductible but you pay income taxes on the disbursements during retirement. If you need $80,000 a year and it comes entirely from a 401(k), you’ll need to save for more because you’ll be taxed on that income. I conveniently ignored it because it complicates things and I just figured that any Social Security payments would help offset that tax so that the math would come out close enough. I could be wrong but for the sake of simplicity, that’s where we’re going. 🙂

So, are you saving too much?

(Photo: italintheheart)

{ 9 comments, please add your thoughts now! }

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9 Responses to “Can You Save Too Much For Retirement?”

  1. Ken says:

    I can see people wanting to be conservative by choosing a withdrawal rate of 2% to 3% instead of 4%. If inflation and stock market returns are worse over the next 20 years than what they have been, a smaller withdrawal rate can help compensate.

    • Steve says:

      4% is for a 30 year time period (potentially exhausting the principal by the end of the period). If you want your portfolio to last forever and/or indefinitely, you need to use a lower withdrawal rate. I don’t think anyone has determined what that rate is yet.

      It’s fine and all to arbitrarily pick a lower rate, but it’s not mathematically nor empirically proven. Choosing 2% means your portfolio has to be 50% bigger than if you chose 3%. That probably won’t require working 50% more years, but it will definitely require a lot more years of working. You would be better off spending some of those years figuring out what withdrawal rate to use instead.

  2. Travis says:

    Max Roth contribution is $5000 per year with $6000 contributions later in life.

  3. tbork84 says:

    I tend to think of it as William Bernstein put it, “the goal of investing is not to get rich – it is to not die poor.” Over-saving is not a concern of mine, nor should it be for the vast majority of people. The only caveat is that high interest debt should be made a priority.

  4. Steve says:

    You only have two options with money. You can either spend it or save it. “Spend it” could actually mean a few different things – you could spend it on something (experience, object, lifestyle, etc); you could not earn it (work less); you could give it away. If none of those options appeals to you for whatever reason (you are not satisfied with the “utility” per dollar), then what choice do you have but to save the dollar in the hope you’ll get a better opportunity later?

  5. RT says:

    My plan is to hopefully replace my and my wifes salary by 125% with dividends. I would like more than our current salaries so that in the event of a company cutting it’s dividend, we would still have wiggle room.

    So with this investment strategy, our networth or portfolio worth is a secondary measure as to how much dividend income we are receiving. Now at age 33, our dividend income is about 10% of our salaries with a portfolio of mostly dividend aristocrats with some MLP’s and some other good dividend payers like INTC.

  6. What the author fails to mention is what many fail to see – the cost of living will likely be much higher by the time you retire. So calculating your “needed income” when you retire is a function of not only predicting desired income (say 40k) but also how many dollars it will take when you retire to have 40k in purchasing power. Don’t simply subtract inflation from your expected returns over the years as this incorrectly accounts for the problem. You have to guess at what you will need to have 40k in purchasing power when you retire. IF you want to retire in 25 years and we have a lowly 3% inflation rate, prices of goods and services will have doubled and effectively require you to have 80k in withdrawls.

  7. vittorio says:

    I began investing at age 42. When I retired at age 54, I had around $300,000. Now, even after living on my savings for 8 years before taking social security, being married three times during that time frame, moving to a foreign country, buying a home and being through at least three precipitous drops in the markets, I have over $450,000 in my accounts.

    Did I save too much? Looks like I did but I will leave my current wife with enough to support her for the remainder of her life.

  8. Chris says:

    My trick is my mother’s age-old Chinese philosophy of living within your means, and not borrowing any money if you can help it. So with that philosophy in mind I watched my pennies while at university and managed to graduate loan free. Then I waited a year until I had saved sufficient money, then bought my brand new car cash down. Then we rented an apartment for 4 years, saved our money, then bought our house in a good neighborhood almost cash down with a one year open mortgage which we got rid of in about 5 months. From then on, all our earnings except our cost of living are at our disposal for savings. Except for our occasional overseas tours, we avoided using credit. By living this way, we saved ourselves tons of money in mortgages and loan interests. Today ? We are comfortably retired millionaires, and don’t owe a cent to anybody.We could have gone to Vancouver or Toronto and splurge on a million dollar home, but why bother ? Our time on earth is limited and you can’t take your million dollar home with you ! So sit back and enjoy your hard earned savings.

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