BLUF: To create your retirement target, you should plan to accumulate 25x - 33x times your annual cost of living, minus your after-tax retirement pay and disability, and then adjust for inflation.
Updated: 29 Dec 2021
Let’s face facts. If you are in the military, you probably don’t have enough saved for retirement. If you’re enlisted, that’s doubly true. With rare exceptions, many enlisted members have only minimal savings, and are definitely not investing enough to build a comfortable retirement. I get it… you have bills to pay, and we have a good retirement pension ahead of us. Isn’t that enough to retire on?
No. No it really isn’t.
For the most part, your military retirement is a good pension, but will roughly pay for a decent mortgage. It will be significantly lower that your take home pay now – only starting at 50% of your base pay at 20 years (not including your BAH or BAS entitlements). You’ll need other income (i.e. retirement investments or other income) to make sure you can afford to live through retirement.
In general, most Americans between 55-65 have saved an average of $160,000 for retirement. Is this enough? Definitely not when you realize that this money has to last you for maybe 10-30 years. Even with a military pension (which usually pays for a decent mortgage if you retire) and if social security is still around when you are older, would you be able to live on $5,300 dollars a year? Probably not.
The Rule of Thumb - Spend 3-4% of your nest egg each year
The commonly cited rule of thumb is that you should only spend 3-4% of your nest egg each year in retirement. Mathmatically, this means you need to have accumulated 25x to 33x times the amount of money you’ll spend each year. Spending 3% of your nest egg is considered much more conservative, while spending 4% is the standard. If you want to spend 3% of your nest egg each year, multiply by 33. If you will spend 4%, multiply by 25.
The thought is that your nest egg will continue to grow (if invested well) and you won’t run out of money. A large portion of your nest egg would remain invested in the market, but with a portion in safer bonds/cash to pay for your retirement needs.
So, if you have $1,000,000, then you can spend $30,000 to $40,000 each year in retirement. Not a lot for having a million bucks… right?
Inflation and Taxes are your enemy
Compounding this is that inflation is making every dollar you have worth a little less each year. At a rate of 3% per year, your $1,000,000 in cash will be able to buy only $860,000 in 10 years, $680,000 in 20 years, and a measly $520,000 in 30 years! Your money will probably buy half as much in ~30 years… so you’ll need to double your financial goal to get the same spending power.
In the example of $1,000,000, your $30,000 to $40,000 per year will likely be worth only $15,000 to $20,000 worth in today’s dollars. To get the same spending power, you’ll need to double the amount you need to save.
And, you’ll also have to account for taxes, which, if you are not using a after-tax retirement plan like a Roth IRA or Roth TSP, will cost you another percentage. There are ways to help save on taxes, but it requires planning.
Will you need less money to live when you retire?
Though traditional advice is that you’ll need less money when you retire. But, will you really? In Jill Schlesinger’s book, “The Dumb Things That Smart People Do With Their Money”, she talks about the pitfalls to this kind of thinking. When you get used to living a certain type of lifestyle, it is extremely hard to cut back. It usually takes a catastrophic event – like suddenly running out of retirement savings – to force people to drastically change their habits… often to a painful level. Unless you want this to be your future, you should be investing in your retirement now.
I don’t throw all this out to scare anyone. But, just relying on just your military retirement (if you plan on retiring) will not be enough for you or your family.
How to calculate your estimated nest egg in retirement
Based on all of this, this is how I have estimated my nest egg in retirement:
- Determine how much money I will need to live comfortably (in today’s dollars). Add up all your monthly bills and costs, then multiply by 12 to get your total annual costs.
- Estimate how much money you’ll get in military retirement (if applicable). Subtract this from your overall costs.
- Multiply this by 25x or 33x. This is your nest egg in today’s dollars.
- Decide how many years from now you’ll retire.
- Planning for 3% inflation, use a Future Inflation Calculator to find out how much money (in future dollars) you’ll eventually need to have to retire. As a rule of thumb, if you will retire in 27 years you can use the Rule of 72 and just double your nest egg.
For example:
If I decide I need $40,000 in today’s dollars in retirement (after steps 1 & 2), I’d them multiply by 25. This gives me a total of $1,000,000 needed (in today’s dollars). Then, if I’m retiring in 27 years, I’d double my nest egg to $2,000,000 to account for inflation.
Note: This is an estimate. A ton of things can cause you to need more or less money in the future. As you go along your investing journey, you’ll likely change this number (especially as you get closer to your retirement date). However, it is helpful to have a number in mind as you decide how much to invest for your retirement.
So, how much do you have saved and invested? If you don’t have a plan to build enough wealth to protect your future… you have work to do. Keep reading and start investing smartly.