Enter Fidelity’s 45% rule, which states that your retirement savings should generate approximately 45% of your pre-tax income before retirement each year, with Social Security benefits covering the rest of your expenses.
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The financial services company analyzed spending data from working people between the ages of 50 and 65 and found that most retirees need to replace between 55% and 80% of their pre-retirement income to maintain their current lifestyle. Because retirees have lower daily expenses and typically don’t contribute to retirement accounts, their income requirements are lower than those of those who are still working.
As a result, a retiree making $100,000 a year would need between $55,000 and $80,000 a year Social Security distributions and withdrawals of savings (including retirement benefits) to continue their current lifestyle.
Fidelity’s 45% guideline dictates that a retiree’s nest should be large enough to replace 45% of their pre-tax pre-retirement income annually. Under this rule, the same retiree who made $100,000 a year should have saved enough to spend $45,000 a year, in addition to his Social Security benefits, to fund his lifestyle. Assuming the person lives another 25 years after reaching retirement age, this person would need $1.125 million in savings.
Pre-retirement income plays an important role
But all pension expenses are not created equal. Those who have earned less during their careers will have saved less than high earners and will therefore have to replace a larger part of their pre-retirement income.
“Your salary plays a huge role in determining what percentage of your income you should replace when you retire,” Fidelity wrote in his most recent Viewpoints. “Higher-income earners tend to spend a small fraction of their income during their working years, and that means a percentage-lower income replacement goal to maintain their lifestyle after retirement.”
According to Fidelity, a person making $50,000 a year would need savings and Social Security to replace about 80% of their income in retirement. However, a person who makes $200,000 can get by in retirement by replacing only 60%.
Social security plays a less important role in the pension schemes of higher-paid employees. Consider the table below:
Income Replacement Using Fidelity’s 45% Rule Income Before Retirement Savings Replacement Rate Social Security Replacement Rate Total Replacement Rate $50,000 45% 35% 80% $100,000 45% 27% 72% $200,000 45% 16% 61% $300,000 $45 % 11% 55%
According to Fidelity, a retiree making $50,000 a year would receive 35% of that income through Social Security. But a high-earning individual making $300,000 a year would see only 11% of their income replaced by Social Security benefits. While people with higher incomes don’t have to replace as much of their pre-retirement income, retirement savings plays a more important role for these types of retirees.
Fidelity’s 10x rule of thumb is a helpful guideline to follow if you’re saving for retirement over many decades. But when retirement arrives, Fidelity recommends that your savings cover 45% of your income needs, while Social Security covers the rest. As a result, the average retiree will need to replace between 55% and 80% of their pre-retirement income, pre-tax, to maintain their current lifestyle.
Retirement Planning Tips
AN Financial Advisor can be invaluable when it comes to planning your retirement. Whether it’s saving in tax-advantaged accounts or charting your income needs, an advisor can help you with your retirement planning needs. SmartAsset’s free matching tool can connect you to up to three local advisors in just five minutes. If you are ready to find a professional in your area, start now.
While people can start collecting Social Security benefits at age 62, delaying collection will result in higher benefits. SmartAsset’s Social Security Calculator can help you develop a collection plan that will help you maximize your benefits and enjoy your retirement.
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