How much capital do you need for retirement?

You may have seen the commercials about retirement that ask, “What is your number?” Everyone’s number is different. But how to get there requires the same process. Once you understand the math, the rest is a matter of discipline and wisdom.

If you don’t know the Rule of 72, it is simple. Divide 72 by the interest rate that you think you can earn. The answer is the number of years it takes money to double. So 72 divided by 10 percent equals 7.2 years for money to double. Compound interest is your friend and you need to understand how it works and use it to your advantage.

Here’s how to calculate your number. What is your goal at retirement? If you are earning $100,000 today, and you are 40 years old, what do you think you will be earning at age 70? How much income do you think you’ll need when you retire? The rule of thumb is 80 percent of final pay. But it is a personal consideration, and you have to decide. But assume your retirement income is $250,000 (30 years from now). You would probably want somewhere around $200,000 as your retirement income.

If this is your retirement “income” number — what does that mean in terms of capital? There are two ways to achieve this. First, you can systematically liquidate all of your money and live on the earnings and the capital, which is basically how an annuity works. You give the insurance company capital, then they guarantee a paycheck for life. Or you can try to preserve the capital and live on the money, money makes. You can self-insure and try to provide security yourself. There is no wrong or right answer; it is a personal choice. If you do the math, there is little difference between those two numbers at a defined end point. But if you outlive the defined end point, you are in a race to have your money last as long as you do.

So let’s assume you are going to live on your capital. You’re going to spend the money your money makes. What can you take from your investment nest egg every year and feel confident that you won’t erode your capital? There have been numerous academic studies on this subject. There are different answers based on different assumptions. But let’s assume you can take 5 percent a year and withstand the cyclical ups and downs of the market (called sequence risk). If you need $200,000 of income at retirement, then you would need $4,000,000 in your retirement account. (5 percent of $4,000,000 = $200,000).

The column labeled “goal” shows how much you have to have at various levels of expected income. The “amount” is your number. It is how much you need in your account at age 70. If you withdraw 4 percent instead, the number is different. If the goal is still $200,000, at 4 percent you would now need $5,000,000 of invested capital to be able withdraw $200,000 each year. Another complicating factor is inflation. You probably would want to increase the $200,000 to account for rising prices.

But studies have also shown that in the slow-go and no-go years, retirees usually spend a lot less. This should be factored in as well. How much will you have to save to reach your number?