Worksheet can help you plan your retirement savings

Making plans for the future is a whole lot easier when you have some hints of what lies ahead. Though it is impossible to know the future exactly, people planning for retirement are finding that the future seems a lot less uncertain than it did just a few years ago. Still, it's a good idea to do some calculations on your expected retirement needs and do what you can in the meantime to finance those needs.

``This is a great time to retire,'' William O. H. Freund Jr., a vice-president and specialist in financial planning at Prescott, Ball & Turben, a Cleveland brokerage, writes in the firm's monthly newspaper for investors. ``It is so because the rate of inflation is down and likely to stay down. It is so because tax rates are down and likely to decline further. But most important, this is a great time to retire because the real rate of return is so high.''

For 1950 to 1963, Mr. Freund points out, the maximum tax rate was 91 percent. Then it was cut to 78 percent and cut again to 70 percent the next year. The top rate stayed at 70 percent until 1981, when it was cut to 50 percent. Now, the Reagan administration is proposing another cut, to 35 percent. Even if Congress doesn't go along with a cut this big, or any cut at all, taxes are at historic lows.

In the meantime, the real rate of return, which was as high as 8.5 percent in 1983 and went down to -3.6 percent in 1974, has settled in at a very respectable 6 percent, three times the 2 percent average that has prevailed over the last three decades. Freund measures the real rate of return by taking the yield on high grade bonds and subtracting the inflation rate.

His return rate is, of course, eroded somewhat by taxes, though not as much as it has been in previous years. When the top rate was 91 percent, a 2 percent real rate of return shrank to 0.18 percent. With the top rate at 70 percent, the after-tax return rose to 0.60 percent, and at 50 percent, the return came up to 1 percent. So with the current 6 percent real rate of return, investors in the 50 percent bracket are enjoying a 3 percent after-tax yield.

(Of course, not that many people pay the top tax rate, but those that do, Freund notes, have a disproportionate effect on investment markets.)

Knowing past and present rates of return -- along with some inkling of the future -- helps figure out how much you should be putting aside for retirement. There are, however, other considerations: your present net worth, your age, the number of years you plan to work, and expected living expenses after retirement.

To this end, Craig Litman, a vice-president and financial consultant at Bailard, Biehl & Kaiser Inc. in San Mateo, Calif., recently prepared a worksheet to show people how much money they will need at retirement to maintain their current life style and how much they should be saving now to meet these needs.

``People don't realize what it takes and how soon you have to start to get there,'' Mr. Litman says. The following discussion, along with the accompanying table, are intended to give you some idea of ``what it takes.'' The process can get complicated at times, so pay attention, please.

In preparing his worksheet, Mr. Litman assumes a well-balanced portfolio of investments will earn the same after-tax rate of return of 3 percent discussed by Mr. Freund. But he also assumes an average inflation rate of 6 percent, a fairly conservative assumption, given the under-4 percent rate of the last three years.

Using these assumptions, Mr. Litman presents a hypothetical couple, both 35 years of age, who plan to retire in 30 years (Column A). They have a net worth of $100,000, not including their home or personal property.

(The fact that many people do not have this much money only underscores the need for early planning, Litman says.)

In his example, Litman's couple have current annual expenditures of $35,000 a year. Subtract $15,000 for expenses which may be reduced or eliminated by retirement, such as children or mortgage payments, then add $5,000 for additional post-retirement expenses, such as travel, and you have $25,000 which represents annual living expenses if this couple were to retire today.

He then assumes they both plan to work another 30 years before retirement and multiplies $25,000 times 5.7 (column B) to find out what that money will be worth in 30 years, at a average 6 percent inflation rate. The answer is $142,500. (The mathematical process that led to these various various multipliers is too complicated to explain here.)

Now, the couple has assumed they will need income for 20 years after retirement, so the actual cost of their retirement is $142,500 times 14.88 (column C), for a total of $2,120,400. Then, we have to bring that heavy number back down to today's dollars, so the couple can figure out how much they need to save. To do this, we multiply $2,120,400 times 0.0754 (column D), which represents the ``value today factor,'' for a total of $159,878. Subtract from this their $100,000 net worth and we get a shortfall of $59,878.

Now comes the final bit of math needed for saving goals to make up that shortfall. Divide $59,878 by an annual savings factor of 19.60 (column E) and we find the couple needs to set aside $3,055 a year. However, even this number will change every year because of inflation. If the inflation rate is 6 percent next year, they will have to save 6 percent more, or $3,238 next year. Every year the couple can save more than the minimum and every year their portfolio earns an after-tax return higher than 3 percent, it will make saving in the later years that much easier, or will result in an even higher nest egg at retirement.

With the exception of Column C, Mr. Litman's example moves straight across one line in the table, but he says you can move up and down the columns, depending on your circumstances, and still arrive at a useful figure to establish your saving goals. Chart: Goal: financial independence at retirement. Source: Bailard, Biehl & Kaiser Inc. Years until Inflation Years of Value today Annual savings retirement A factor 6% B retirement C factor D factor E - 1.30 -- .6499 4.58

10 1.80 -- .4224 8.53

15 2.40 11.94 .2745 1.94

20 3.20 14.88 .1784 14.88

25 4.30 17.41 .1160 17.41

30 5.70 19.60 .0754 19.60

35 7.68 -- .0490 21.49