How much do you need to save in order to retire comfortably. That’s the magic answer everyone is looking for. Planning for retirement can often feel daunting, but there’s a simple rule that can give you a ballpark idea of your number. It’s called the “Rule of 25.”
What Is the Rule of 25?
The Rule of 25 is a quick formula that suggests you should save 25 times the amount of money you expect to spend each year after you retire. For example, if you think you’ll need $80,000 per year to cover all your expenses in retirement, the Rule of 25 shows that you should save $2 million.
$80,000 × 25 = $2,000,000
But the rule of 25 is just a guideline. It can give you an idea whether your savings are on track or if you need to save more. It may even be useful in helping you make investment decisions or deciding when to retire.
But the rule only applies to the portion of your retirement income that comes from investments and savings. If you expect to get $40,000 per year from Social Security and your annual retirement expenses are $80,000 then the Rule of 25 says you need savings of $1,000,000.
$40,000 x 25 = $1,000,000
How does that compare to the masses? A recent Northwestern Mutual study found that Americans estimate they’ll need $1.26 million to retire comfortably.
The Rule of 25 is only a quick math equation, not an in-depth retirement planning guide. It can help you determine whether you’re generally on track, if you need to save more, it may even help with portfolio decisions and when’s the right time to retire.
But the Rule of 25 doesn’t take into account unexpected events that occur before you retire or new situations that come up after you retire. For example:
- Needing more money if you have to retire early because of your health or to become a caregiver for a spouse or a parent.
- Additional expenses for health conditions that present themselves later.
- Paying for long-term care or in-home care if it becomes necessary.
- How long you expect to live based on your health and the history of longevity among your ancestors.
- That broad category called “emergencies”.
- Traveling you didn’t account for in your retirement plan.
- Hobbies or new interests you discover after retiring.
- Supporting kids or grandkids.
- Charitable giving to new causes.
- Taxation on retirement savings, whether in taxable accounts or money that comes out of retirement accounts such as IRAs and 401(k)s.
- Retirement income you didn’t consider such as part-time employment or income from a business you start.
The Rule of 25 also doesn’t account for your risk tolerance, sequence of return risk caused by market conditions, or guaranteed income sources like Social Security or pensions. Those income sources matter. A Gallup survey found that almost 60% of retired Americans consider Social Security a “major source” of their retirement income. By comparison, less than 30% say the same about retirement accounts like 401(k)s or IRAs.
The rule of 25 also assumes a 4% withdrawal rate based on historical U.S. market returns. While it’s worked in the past, there’s a growing question whether that rate is sustainable now given longer life expectancies and today’s market conditions.
Because everyone is different, you have to tailor the Rule of 25 to your unique circumstances and that requires thoughtful planning. Remember, the Rule of 25 is a starting point, not a guarantee. True, well thought out in-depth retirement is always preferable.
This information is presented for informational purposes only and does not constitute an offer to sell, or the solicitation of an offer to buy any investment products. None of the information herein constitutes an investment recommendation, investment advice or an investment outlook. The opinions and conclusions contained in this report are those of the individual expressing those opinions. This information is non-tailored, non-specific information presented without regard for individual investment preferences or risk parameters. Some investments are not suitable for all investors, all investments entail risk and there can be no assurance that any investment strategy will be successful. This information is based on sources believed to be reliable and Alhambra is not responsible for errors, inaccuracies, or omissions of information. For more information contact Alhambra Investment Partners at 1-888-777-0970 or email us at info@alhambrapartners.com.
