How much are you saving for retirement? Experts recommend saving at least 10% of your salary, but a recent report by the Plan Sponsor Council of America (PSCA) suggests that many Americans fall short of that benchmark.
The PSCA, which helps employers manage their retirement plans, concludes that the average American worker contributes only 7.6% of income to a professional retirement plan. And you must ask yourself: is this enough to guarantee a comfortable retirement?
As you will see below, a deeper dive into the numbers suggests that it is possible to finance a decent retirement by contributing less than 10% of your salary, although there are some important caveats. On the one hand, you need to start saving in your 20s. You also need to earn more than 5% in matching contributions from the employer.
And yet, you will have no financial margin to deal with unexpected circumstances. This is difficult, because there are many factors that can hamper your savings efforts and financial security, such as health issues, financial markets and business cycles, and unexpected changes in your work.
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Saving with a higher contribution rate adds flexibility to help you deal with these uncertainties. But if times are tough and you can only pay a contribution of around 8%, here’s a look at what your retirement might look like.
Projected retirement savings income
Let’s say you earn $ 54,236 per year, which is the average salary for a 25- to 54-year-old worker. The PSCA report estimates the employer’s average equivalent contribution at 5.3%. This, combined with its 7.6% contribution, puts almost $ 7,000 annually in your 401 (k). Invest these contributions primarily in stocks to earn an average of 7% per year and your retirement account balance is expected to grow to around $ 665,000 in 30 years.
That $ 665,000 in retirement savings is expected to generate an income of $ 23,000 to $ 27,000 per year. This is based on the idea that it is safe to withdraw 3.5% to 4% of your savings balance each year in retirement. At that rate of distribution, your money should last as long as you do – even in the midst of bear markets and difficult economic cycles.
Social security income
You must also have Social Security benefits to supplement your savings income. In its current form, the program replaces about 40% of the average worker’s income. This guideline is only valid if you wait until you reach full retirement age (FRA) to claim your benefits. Claim before that and your benefits will be less. Assuming you were born after 1959, your FRA is 67 years old.
With an annual salary of $ 54,236, 40% is equivalent to about $ 21,700.
Total projected retirement income
Assuming you withdraw $ 25,000 annually from your savings and receive $ 21,700 from Social Security, this totals a total retirement income of $ 46,700. It may not seem like much, but it is 86% of the work wage that we started. If your living expenses drop slightly in retirement because you have paid a mortgage or are no longer making contributions to retirement, you can earn 86% of your work income. But it is a tight fit: so tight that this plan does not allow for some fairly common scenarios.
Things that can go wrong
Here are five of those common scenarios, any of which can hurt your retirement plan.
- You have less than 30 years to save. If your schedule is less than 30 years old and you are still not saving, you will have to contribute much more than 7.6% of your income to accumulate enough savings to supplement Social Security enough to cover your living expenses.
- Your employer’s correspondence is less than 5.3%. A lower employer match would require a greater contribution from you to achieve your desired savings balance.
- You have to retire early because of work or health problems. If you retire early for any reason, your Social Security benefits will be less. This reduction can reach 30%. The sooner you claim, the greater the reduction.
- You have an emergency and need to withdraw funds from your retirement account. If you borrow or withdraw any of the funds from your retirement plan, you will have to increase your contribution rate substantially to resume the plan.
- Medical expenses in retirement increase your cost of living. You may find that replenishing 86% of income is not enough. There may be several reasons, but high medical expenses are a common culprit. You can protect yourself from this by contributing additional amounts to a health savings account.
Save more than you think you need
For most savers, the average 401 (k) savings rate of 7.6% will not be sufficient. The numbers can barely work on paper, and only for younger workers. But the margin of error is too small to provide any peace of mind.
If possible, aim for a savings rate of 10% to 15%, not including your employer. If this is not possible, plan to increase your contribution rate annually or whenever you receive an increase. The sooner you start this habit, the easier it will be to ensure the comfortable retirement you want.