Wednesday, August 20, 2008

Is $1,000,000 enough to retire on? Is $2,000,000 enough money to retire on?

In my free time I regularly read Yahoo finance or the CNN Money articles related to personal finance and retirement. People are told that they need to save as much as possible for retirement, because they will be spending somewhat close to 75% of their pre-retirement incomes per year. In addition to that most so called financial guru’s claim that Social Security and Medicare will be either bankrupt or providing only enough coverage for the elderly that would allow them to enjoy cat food and insufficient health care in retirement. In order for people to be able to retire comfortably in those gloomy future years, they have to save as much as possible and invest it all in the stock market, in order to generate one or two million at the time of their retirement, which would then allow them to withdraw fund during their non-working years.

I generally disagree with these articles, since they are way too general. They are written with the intend to target as many people as possible. But they are far away from the truth.

In my opinion, it is important to have paid in full your primary residence at the time of your retirement. Once this is done, the income requirements are much lower than during your working years. Most financial experts recommend that the annual mortgage payment for a primary residence should not exceed 35%-40% of the family’s income. If you are currently spending 30% on your income in order to be able to pay off your house by the time you retire, then you will be able to live on 30% less income during retirement.

In addition to that, if dividend and capital gains income continues to get a preferential tax treatment, you will need less investment income for each dollar of job income that the investment income is replacing. The best thing of investment income is that you don’t have to pay Social Security and Medicare on it.

Finally, in order to determine your income needs in retirement, you should subtract the amount of money which you normally contribute to your salary every pay period. I wouldn’t expect that you will need to save for retirement, in retirement. If you contribute 10% of your salary to a 401K plan for example, then you need to subtract that percentage from your income needs.

A potential wild card that could possibly derail one’s retirement is the rising costs of healthcare. We are constantly reminded how healthcare costs are rising exponentially and how they would become even more expensive in the future. I do think however that in the future health costs increases will not rise more than the rate of inflation, after stricter insurance reimbursement policies require health management organizations to be more selective in their billing to patients and the procedures that are recommended.

After one’s retirement needs have been estimated, it is a good idea to create an investment plan, which would help you in your quest to reach your goals. A solid mix of dividend stocks and some bonds would be a good place to start. Don’t have time to play a stock picker- then select a mix of index funds. Then set it up on autopilot by investing a fixed amount from your paycheck every pay period.

Relevant Articles:

- Determining Withdrawal Rates Using Historical Data
- Back test Results of one Rule of Thumb
- The case for dividend investing in retirement
- Ten Things to Know About Dividends:

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