When I speak to folks that are in their final stretch leading up to retirement, one topic that often comes up is how much they should be saving. While the simplest answer is “as much as possible”, I wanted to provide some additional perspective on why saving as much as possible in the homestretch to retirement is so important.
It’s not the reason you think.
Let’s say that you just turned 60 and you are thinking that you could squeeze a little more to save an extra $10,000 per year. Not an insignificant amount of additional savings for many people. What would that amount to by the time you turn 65 and retire?
| Beginning of Year Balance | Additional Contributions | 6% Growth | End of Year Balance | |
| Year 1 - Age 60 | $10,000 | $0 | $600 | $10,600 |
| Year 2 - Age 61 | $10,600 | $10,000 | $1,236 | $21,836 |
| Year 3 - Age 62 | $21,836 | $10,000 | $1,910 | $33,746 |
| Year 4 - Age 63 | $33,746 | $10,000 | $2,625 | $46,371 |
| Year 5 - Age 64 | $46,371 | $10,000 | $3,382 | $59,753 |
| Retirement At Age 65 | $59,753 |
The additional savings of $10,000 per year ($50,000 in total contributions) has amounted to approximately $59,753 towards your retirement in addition to whatever else you managed to save to that point. Note that this assumes a 6% annual return over the 5 year period - which we know is a crapshoot at best.
If we assume a 4% withdrawal rate (not my favorite way to look at things, but trying to keep things simple), that means the additional savings would hypothetically provide an additional $2,390 per year in income or roughly $200 per month in retirement.
Not too inspiring in my opinion for all that extra effort.
But that would be ignoring the most significant part of why people should save as much as possible as they are closing in on retirement. That is, establishing a lower baseline of the income that you need to feel comfortable in retirement. Think about it, if you had not saved the additional $10,000 per year, you likely would have spent it on something, whether that’s on travel, more eating out or just more stuff in general.
So, your default position heading into retirement would have been an additional income need of $10,000 per year in order to have the same level of comfort for lifestyle purposes that you were accustomed to prior to retirement. But instead, you wisely chose to save that additional $10,000.
What was the impact of living even more within your means?
Because you will be accustomed to the reduced spending presumably by the same $10,000 per year leading up to retirement, we will assume that this reduced spending level will continue into retirement. If that is the case, you’ve theoretically reduced your annual income need in retirement by the same amount.
Given that choice, how much “less of a portfolio” would you need as a result of saving that $10,000 instead of spending it? In other words, what would it have hypothetically taken to provide that additional $10,000 per year in approximate portfolio value had you chosen to spend it versus save it?
$250,000. [$10,000 / 4%]
If we look at the additional savings from this angle, you didn’t just manage to accumulate an additional $59,753, but you would have made an overall impact on your retirement of closer to $309,753. That is the $250,000 less needed plus the additional invested amount of $59,753. That is a HUGE difference!
So, when you’re nearing retirement, I’d argue that the real value of saving as much as possible leading up to retirement isn’t so much the extra dollars that are accumulated, but in how the simple exercise of saving additional dollars impacts the lifestyle you may experience in retirement. It’s pretty simple math, but the impact can be significant.
What I’ve Been Reading:
Investment Cartography (mullooly.net) - “Short-term market information was not designed to benefit the long-term investor.”
The Psychology of Sitting in Cash, Part Deux (awealthofcommonsense.com) - “There are no perfect allocations or times to invest in risk assets. These things will only be known with the benefit of hindsight.”
Coarseness and Coddling (l2inc.com) - “The algorithms sense if you lean left or right, then begin shoving you to the poles and serving you increasingly provocative and extreme content you can’t turn away from, to scratch a tribal itch.”
ChenTech101 (chenmarkcapital.com) - “Your password sucks. Here’s why it matters.”
Inside the Only Supercar Factory in America (jalopnik.com) - If you’re a car nut, this inside look at the factory where they make the Acura NSX is really cool.
Off the Map: The Secret Cities Behind the Atom Bomb (theguardian.com) - “In 1943, three ordinary-looking US Cities were constructed at record speed - but left off all maps.”
A Dark Corner (bonefidewealth.com) - You’ve been warned… “They are the self-proclaimed “financial advisors” and insurance professionals that lurk inside your local Facebook groups. If you are a member of one of these groups (i.e. moms), you know exactly what I am talking about.”
Thanks for reading!
Ashby Daniels
Disclaimer: The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee that it is accurate or complete, it is not a statement of all available data necessary for making an investment decision, and it does not constitute a recommendation. Any opinions are those of Ashby Daniels and not necessarily those of Raymond James. Links are being provided for information purposes only. Raymond James is not affiliated with and does not endorse, authorize or sponsor any of the listed websites or their respective sponsors. Raymond James is not responsible for the content of any website or the collection or use of information regarding any website’s users and/or members.
