Measuring Your Nest Egg

Measuring Your Nest Egg

You may have a specific vision of your retirement & traveling the world, downsizing to a beachfront cottage or spending time with your friends and family. You might want to get back to some of your old hobbies or start new ones. Or perhaps your vision of retirement is not as specific, but is simply based on the feeling you want to achieve - you are looking forward to some peace of mind, relaxation and security. Either way, are you confident that you are putting away enough money to fund the retirement of your dreams? Do you know how much money you will need for your retirement essentials?

No matter how clear your vision of retirement is or what stage of life you are in, when it comes to retirement planning, there are many factors to consider at your age and life expectancy: the age at which you plan to retire, the equity in your home, the return on your investments, rates of inflation, and more.

Financial experts estimate that most people will need about 60 to 80 percent of their annual pre-retirement income to live on each year after retirement. Reports from the Office of Social Security show that social security payouts constitute about 40% of all income for the elderly. The rest must come from pensions, which are diminishing in many industries, or from other investments, such as mutual funds and other products. Here are some steps that can help youcalculate if you are on track for saving for retirement and some tips for helping you reach your goals.

Estimate the future value of your current savings

To calculate the future value of your current savings, you must determine approximately how many years you have left until the time you would like to retire. Then pick an estimated annualized average return for your savings over that period. (A conservative estimate of long-term returns on a diversified portfolio might be in the range of 6 to 7 percent). Then multiply your current nest egg by the growth factor from Table A below. This is what your current savings could be worth by the time you reach retirement. Keeping in mind your investments are not guaranteed any specific rate of return, and it is unlikely that you will earn the same return each year.

Consider a hypothetical 40-year-old who has an average savings of $82,999 in a 401(k) account today. Assuming he will earn 7 percent on his money over the next 25 years, he multiplies the $82,999 by 5.43 (from the chart). His savings could be worth $450,685 when he is 65.

Table A Years to Retirement Assumed annual rate of return
6 Percent 7 Percent
5 years 1.34 1.40
10 years 1.79 1.97
15 years 2.40 2.76
20 years 3.21 3.87
25 years 4.29 5.43
30 years 5.74 7.61

Estimate what additional savings might be worth at retirement

If the same hypothetical 40-year-old was able to save $500 each month in a 401(k) plan and stick with that savings until retirement he would multiply that by 810.07, which is the figure in the chart below that corresponds with a 7 percent return over 25 years. The potential value of his future savings at retirement is $405,035.

Years to Retirement Assumed annual rate of return
6 Percent 7 Percent
5 years 69.77 71.59
10 years 163.88 173.08
15 years 290.82 316.96
20 years 462.04 520.93
25 years 692.99 810.07
30 years 1004.51 1219.97

Figure out what income level you might need in retirement

Based on the calculations above, the hypothetical 40-year-old would have a nest egg of $855,720 at retirement (adding $450,685 and $405,035). Is that enough? He would have to factor in social security and home equity. As a general rule, your nest egg and supplemental income should generate between 70 percent and 100 percent of the income you are making just before you retire.

Decide when you would like to retire

Divide what you still need to save for retirement by the number of years you have left before you retire, and the result is the approximate amount you may want to set aside each year leading up to retirement. If your annual retirement savings need is too great, you may want to consider delaying your retirement for a few years, or creating a transition into retirement by working part-time to continue creating additional income.

Estimate what your nest egg may generate in income during retirement

The rate of return that you can realistically expect your investments to earn over time will depend on the types of assets in your portfolio, possible economic conditions, market fluctuations and more. The inflation rate can be calculated at approximately 5 percent annually, based on the average of the past 30 years, according to the Consumer Price Index. To calculate your Social Security retirement benefit, visit Social Security's website at www.ssa.gov.

Seek help and monitor your progress

If you haven't started evaluating your nest egg, consider beginning the process by crunching some numbers using an online calculator such as the one at American Savings Education Council's Ballpark Estimate.

Remember that while there are some rules of thumb and basic tools to help you look ahead, there is no substitute for having a comprehensive financial plan. See a qualified financial advisor and get help early to determine your retirement needs. Then periodically evaluate your savings and portfolio and make adjustments as needed.