Catching Up on Your Savings
Situations in your life may cause you to temporarily stop saving, but there are steps you can take to make up for lost time.
Many investors saving for retirement may at some point temporarily suspend their contributions for any number of reasons—losing a job, caring for children or an elderly parent, or coping with medical problems. But a lapse in retirement investing doesn't necessarily need to translate into lost retirement income. A recent study by T. Rowe Price analyzes the potential long-term impact on retirement income from saving interruptions and outlines how to get back on track. "You never know when you may need to temporarily stop saving for retirement," says Christine Fahlund, CFP®, a senior financial planner with T. Rowe Price. "But you can recover once the situation allows by adjusting your savings rate to compensate for the missed time."
RETIREMENT PLANNING BASICS
The rules below will help you establish a framework for your savings goals—and can serve as a guide to help you progress toward reaching them.
Save enough. According to research by T. Rowe Price, most investors should follow this basic rule of thumb: Save at least 15% of your salary each year, including any employer contributions, over the course of your working years. At this rate, investors should be able to save enough to support themselves with withdrawals from their retirement savings, Social Security, pensions, part-time work, or other income over the course of 30 years, up to at least age 95.
Plan an income target. Plan to replace 75% of your income once you retire. For example, if you earn $70,000 pretax annually at the time of your retirement, you should aim to provide yourself with $52,500 pretax ($70,000 x 0.75) from all sources in your first year of retirement. Fahlund suggests the following breakdown: Replace approximately 50% of your salary—in this example, $35,000 ($70,000 x 0.5)—with withdrawals from your nest egg, and take the remaining 25% from Social Security and other income sources.
Don't withdraw too much. "Research supports the wisdom of withdrawing 4% of your portfolio in your first year of retirement and increasing that amount for inflation each year thereafter," Fahlund explains. For example, if you have saved $1 million when you retire, you can withdraw $40,000 in the first year from your portfolio and increase that amount by 3% to $41,200 in the second year, and $42,440 in the third year. This approach provides a strong probability that you'll maintain the purchasing power of your withdrawals throughout retirement.