# How Big Does Your Nest Egg Really Need to Be?

Anyone who has ever thought about retirement has surely asked themselves one basic question: How much do I need to have saved up? Unfortunately, the answer to this riddle is not simple nor one-size-fits-all. The amount depends on a variety of factors, and everyone’s calculation must be calibrated to their personal situation.

Many large financial companies have a hard time building an advertising campaign around a concept that is so complex and has so many moving parts. They’d rather just give you a target number that is probably big and scary. Why bother with the math equation part when it’s so much easier to say, “If you don’t have at least \$2 million stashed away, you won’t be OK.”

Let’s call retirement what it really is: 20 to 30 years of unemployment. Fortunately, this type of unemployment can be planned for. Aimlessly accumulating savings in your retirement accounts to fund this goal is meaningless without directly basing it on your situation.

Understanding this, let’s take a deeper dive into the Nest-Egg formula:

Nest Egg = Shortfall / Withdrawal Rate

First: Determine Your Shortfall

To solve for Nest Egg, let’s start by quantifying the shortfall input in three steps.

1. What are your lifestyle goals, and how much will you need to accomplish them?

I’m no longer surprised when people come in for financial advice and have never put together a household budget. Many have no idea how much they spend month to month or year to year. When a financial professional requests to see a budget, it doesn’t mean you’re in trouble; we need to know these numbers as an input to the financial-planning process. The budget may be the most important number in a financial plan. You need to be honest with yourself, because if you underestimate your budget in retirement, you will only get results that are rosier than reality.

My advice: Take your time and calculate your budget. There are two easy ways to help with this exercise. First, you can type “budget worksheet” in Google and pick one from the images section. The second way to calculate your budget is to take your net paycheck as it flows into your checking account, subtract any money you are saving into a savings account, non-qualified brokerage account or IRA — whatever is left over is your household budget, because if you are not saving, you are spending. Another behavior that I have noticed from retirees is that most people don’t change their lifestyle in retirement, so plan for that full lifestyle cost.

2. What are your sources of guaranteed income? Add them all up.

— Most Americans expect to collect Social Security benefits at some point in retirement. What they can’t be as certain of is what the Social Security program will look like by the time they get to the finish line and when (or if) they’ll see cost-of-living adjustments (COLA) that keep up with inflation. So, it’s important to make the most of these benefits with strategies that suit your family’s needs.
— The employer pensions that were once an important factor in nearly every retiree’s income plan are far less common than they used to be. If you are lucky enough to have one, be sure to understand if you have a COLA and how it works. Also, do your best to determine if your company will remain stable and whether your pension plan is secure.
— You may have other sources of income you’re counting on, such as rental income, which depends on occupancy, and annuity income that probably does not have a COLA. If so, be honest with yourself about how steady these income sources will be throughout your retirement.

3. What’s the shortfall?

If your guaranteed income streams aren’t enough to pay for your lifestyle goals — say you require \$5,000 a month and your guaranteed income is \$3,000 — you have a gap, or shortfall, of \$2,000 per month. You’ll need to tap your nest egg to make up the difference. This \$2,000 shortfall is the real number around which you should be building your withdrawal strategy — and your overall financial plan.

How Big Does Your Nest Egg Really Need to Be?Next: Decide on a Withdrawal Rate

Next, we’ll need to determine our withdrawal rate.

For years, the “4% rule” reigned supreme as the measure for how much retirees could withdraw each year from their investment savings — with annual increases for inflation — and feel reasonably confident they wouldn’t outlive their retirement portfolio. For example, if you’d saved \$400,000, under the 4% rule you could withdraw about \$16,000 in the first year of your retirement.

It should be noted that while the 4% rule is a good place to start, it has some problems — mostly because it makes certain assumptions based on historical data that doesn’t necessarily apply to today’s marketplace.

The old 4% rule would be great if we were in a perfect world where you knew you could get a magical 7% rate of return every single year; unfortunately, we live in an environment that’s volatile, and I feel investors should prepare themselves for markets that could be up 10% one year and down 20% the next.

However, the 4% rule is simple and, I believe, still a good starting point — a guideline, not a rule — for retirement planning. It is meant to get you in the ballpark.

Now Do the Math

Now, let’s jump back in time to eighth-grade algebra class. We can solve for Nest Egg by taking our annual shortfall of \$24,000 and dividing by our 4% withdrawal rate, yielding a result of \$600,000. That’s what you’d need to have saved, under these assumptions. It is not quite as daunting as the \$2 million figure we cited earlier, but it’s not chump change either.

Once you have this starting-point calculation, I highly recommend talking to your financial adviser about running a stress test to see how your investments would react through a serious downturn or long-running bear market. Then, make the necessary changes to secure the lifestyle you want to live in retirement.

(SOURCE: TCA)

(Article written by Tony Zabiegala)