Figuring out how much we need for retirement

[starfish]

Hi everyone,

I've read a bit, but I'm not incredibly experienced with investments and stuff.  I got the yearly spending * 25 (for 4% withdrawel) thing.   But there are a few complications that I'm not sure how to work out.  For example, our spending right now reflects 3 children at home as well.  We'll be spending less, I hope, when they are grown up and we are retired (just planning for a slightly early retirement right now) - right now we seem to spend $50000 a year on living (that's frugal living, in a big city, which is somewhat expensive).  Thats considered very low for a family of our size.  Anyhow, do I use that number, or try to figure out a smaller number that factors out raising children?

The other part - my husband's work puts away some of his pay for retirement, and then the company puts about 3x that away on his behalf  (free money!), plus there is the government plan that gets taken out of his paycheck too... both sources of income when he retires at 55 or 65, depending on what we choose.  He also has an investment that his grandfather made for him when he was born, worth about 25000 now. 

So, I have no idea of the value of the workplace investments, and I'm not sure how to subtract those from the total savings we need to aim for?  And what about the possible years in between when he's not retirement age yet, so can't collect?  The 25000 investment seems pretty straightforward?  I just subtract 25000 from our ultimate savings goal? 

Which brings me to my next question... does all the compound interest rolling in help add towards the retirement goal?   (I think so) or is it the goal to save that much up in principle, and not count any gains on the investment as part of that number?   I'm not entirely sure I understand how inflation fits in to all this.

Because, in its most simple form, I figured out that we'd need $50000x25= 1250000 to retire on - and that would take me 25 years of work putting away 50000 a year... which doesn't seem like what's being described. 

[MooseOutFront]

The 25 x expenses thing is all about the cash flow that number generates.  At a 4% "safe withdrawal rate" you're right that $1,250,000 would be the number you need for $50,000 in income.  Except you'll be generating cash flow from sources other than your nest egg.  If your husband retires at 55, what is the annual income that the .gov retirement will provide?  If it's $30,000, then you're down to only needing $20,000 from your investments annually, which only requires a stache of $500,000.  Will there be social security?  Factor that in as future income that your stache won't need to generate.

Use a compound interest calculator to figure how your stache should grow over time:
http://www.moneychimp.com/calculator/compound_interest_calculator.htm

The interest rate you use in this calculation should be your estimated "real" return, which is net of inflation.  This builds inflation into the math instead of ignoring it.  I use 5% for my expected real return over time.  This may be a tad optimistic, but is in the right ballpark based on what I've read.  This compounding effect is how you get to $1,250,000 without having to save $50,000 per year for 25 years.  It would actually take 16 years at 5% interest.  Though, again, I suspect the stache you're shooting for is much less than $1,250,000.

[MooseOutFront]

First of all I think you're doing a bang up job spending just $50,000 with 3 kids in a city.  I personally would just plan on this number being what I need in retirement which builds in some flexibility once your expenses go down when the kids are gone.

It sounds like your current stache is $25,000 to me.  The retirement contributions your husband makes sound like they all go toward an annuity or pension when he retires.  Like, is any of it voluntary and do you have control over how any of it is invested?  There's nothing wrong with this, but the actual value of the money in there is irrelevant (3x whatever); the only thing that matters is the income number at retirement.  Do you know if this is set to be inflation adjusted?  Social security is, but here in Texas the state pension is not (crazy!).

Are there any savings outside of this monthly, and am I mistaken about how the monthly .gov savings work in your case?

[starfish]

For reference, this is all in Ontario Canada.  I'm not entirely sure about the inflation thing with the company savings plan.  I don't think its optional... but also they are putting in 3x what they take from my husband, so it probably wouldn't make sense to opt out.  Hopefully they never go out of business.. and hopefully the savings are kept somewhere independent.  He gets a report each year after taxes from his work and it says how much he can expect each month at his earliest retirement date (55) and his regular retirement date (65), that would be $1732 and $2253 respectively per month.  As of now its says he's earned $354/month of  his pension. 

Then there is something called a Bridge Pension - if you retire at the earlier date, this Bridge Pension kicks in until your 65.   There is also something else about your age + years of Eligibility Service being right - then your pension won't be reduced to absorb extra years if you retire earlier... but its not defined.   Ok, there is some sort of calculation for the bridge pension on the next page.

Does this mean inflation is included... "increased each Jan t...by the indexation percentage determined above"?

Also, if my husband dies, I don't get 100% of his pension, only 66%... should we account for that somehow?

It says a bit about the government plans
CPP is currently paying out 1038.88/month
OAS is currently 551.54/month
I think these do increase with inflation - so the numbers will be different when we get there.

So... how do I use all these numbers if they will change in 25 years?  And, do I calculate as if we'll retire at 55 for simplicity?  If we retired at 45, how would I show that in the numbers, considering we won't have those pensions at that point?  And, yes, I assume I'll be working about half-time once we retire, to supplement (meaning, about 10hours a week).

[starfish]

Hey, I"m not sure I understand what you said about the inflation and net and stuff.  If you calculate based on 5% growth, that leaves only a little for you?  I remember reading about 7% (4% to withdraw, 3% for inflation)?  Going to look at that calculator now.

[MooseOutFront]

Hey, I"m not sure I understand what you said about the inflation and net and stuff.  If you calculate based on 5% growth, that leaves only a little for you?  I remember reading about 7% (4% to withdraw, 3% for inflation)?  Going to look at that calculator now.

When I say I use 5% real returns net of inflation, that means that no matter what inflation does, I'm running estimates based on my portfolio beating inflation by 5%.  That way the numbers work relative to today's dollars no matter if inflation is 1% or 10%, I still plan to beat it by 5% and have the same spending power relative to today's dollars.  The ultimate numbers may be vastly different, but the only "real" gains you have are the ones above inflation.  It's an important concept to grasp imo.

[starfish]

Is there a post here or somewhere that explains that in detail?  I'm just not getting it.

[starfish]

I just added together the yearly payments based on what I wrote before, subtracted from 50,000, multiplied by 25, and got $97700... but that can't really be what we need to save?  Is it possible that his work pension will really be enough to live on?

[starfish]

Sorry, I'm posting so many different questions.  If the investments grow each year, and if I'm keeping a spreadsheet to add up everything we've saved and see how close to our goal we are, I should update it every year with the current worth of our investments, including the interest and not just what we've added each year.  Just double checking.

[frugalnacho]

Sorry, I'm posting so many different questions.  If the investments grow each year, and if I'm keeping a spreadsheet to add up everything we've saved and see how close to our goal we are, I should update it every year with the current worth of our investments, including the interest and not just what we've added each year.  Just double checking.

Yes.  Any growth or interest you earn is real money you can use.  The whole idea is that once you accumulate a large enough stash (25X expenses) it will grow at such a rate that you can take out the growth/interest it generates to pay your expenses without depleting the stash below the 25X threshold.

[Zaga]

I just added together the yearly payments based on what I wrote before, subtracted from 50,000, multiplied by 25, and got $97700... but that can't really be what we need to save?  Is it possible that his work pension will really be enough to live on?

This is actually possible for someone with such good pensions like you have.  Awesome!

So, I'll try to simplify your concern.  Sounds like you aren't so much a math person, so here's how I would think about it.

Each year (I do this in January, but it's up to you) look up what your earned pension amount* is, plus your government pension amount(s).  Then also look up what you have saved outside of that, and use the 4% rule to determine how much a year this is worth.  Calculate how much annual income you have from those sources, and at what age.  If you have enough available right now to live on, then hooray!  If not, then keep saving.

Keep track each year of how much annual income you have accrued.  You'll see amazing progress from one year to the next and start to get an idea of how much longer it will be until you can stop mandatory work.

*Since you will only receive 66% in the event of your husband's death, I would use 66% of the amount they say, just to be on the safe side.

[starfish]

Thanks Frugalnacho

MooseOutFront - can you explain what you said, in terms of that calculator you linked to?  Are you saying that I'd put 5% in the calculator? 

"5% real returns net of inflation, that means that no matter what inflation does, I'm running estimates based on my portfolio beating inflation by 5%"

Ok, maybe I understand.  You are, maybe, saying that if I have a certain amount invested, and the return is whatever percent, if its invested a good way (ie. indexes and stuff I learn here) then the return should be 7% or more (if i recall correctly), and so, the 2% is inflation, and the 5% left is all I want to look at, in terms of meeting my principle goal.  The inflation is accounted for in that extra, and I'm not confusing my current investment totals with my ultimate goal?

I was always a bit slow in the word-problem math department.  Forgive me.

I just looked up the Canadian inflation rate - its been around 2% for many years... but its also been as high as 12% in the 50s, 70s and 80s.  So, do you assume its around 2%?

Zaga - Thanks for answering!  I'm not sure i understood that, lol.  He won't have enough available to live on until he's 55, because he has to keep working and contributing, and also can't access that money until that age.  So...  even if we saved independant of that enough to retire earlier, he'd lose out on the later amount if he stopped working early, right?  Unless we save more ourselves and retire early and accept that he'll get less pension for having worked less years. 

I'm also trying to figure out in all of this whether we could afford to own a home while we are putting this money away.  But that complicates things so much... we would need to use our current stache as down-payment, which would reduce the compound interest effect.  I was thinking of buying a cottage outside the city, to visit, rent out, and then live in after retirement, while just continuing to rent here the rest of our working lives... But back to the simple task of setting a numerical savings goal. 

[Zaga]

Zaga - Thanks for answering!  I'm not sure i understood that, lol.  He won't have enough available to live on until he's 55, because he has to keep working and contributing, and also can't access that money until that age.  So...  even if we saved independant of that enough to retire earlier, he'd lose out on the later amount if he stopped working early, right?  Unless we save more ourselves and retire early and accept that he'll get less pension for having worked less years. 

Exactly.  You just are looking to get a high enough cash flow to live on.  If, say, at age 50 you guys have $500K in retirement accounts, which would give you $20K annually, plus have accrued enough pension money to cover the difference, then you can RE.  It is a little bit complicated by not being able to access pension money until 55, so you'd need to use a calculator for those 5 years of only living on your stash and withdrawing more than 4%.  See what will be left after that at 4% SWR, add it to your pension(s).

Of course I expect you aren't close yet, but doing the calculation each year will show you getting closer, so I still think it has value.  Predictions further out than a few years based on market returns are just educated guesses, IMO.  So I while I do them, I don't put a lot of hope in them being right.  Too many things in life can change, so why stress about inflation, returns, and taxes 20+ years in the future?  Just do your best, see where you are periodically, and act accordingly.

[starfish]

Well, because, right now we live so frugally - and I'm about to start working next year, which will give us some income to save!  I'm hoping to double our income over the next 2 years after that, and continuing on until we meet our savings goals.  Right now, our total expenses = total income, essentially.  I would like to know how much of our second income we could still use, rather than save, and still retire in a reasonable amount of time.  I'm a bit tired of being so so frugal.  Its hard.  I want to be independent later on... but I also don't want to feel poor right now.  For example - I want to replace our sofas (they are gross), but with Bed Bugs being a problem in our city, I don't want to buy used... and I'd rather buy ones that will last forever, so not ikea.  When I start working, I'd like to be able to do things like that, with some of that money.   

[DoubleDown]

I suggest breaking up your retirement into different budgeting periods based on your life circumstances. For example, one period while you have kids living with you; another without kids; the period when pensions will kick in; and so on. Determine an estimated budget for each of those periods -- for example, $50,000/year right now with kids, maybe $30-40,000 without kids or whatever -- then match up different investments or sources of income to cover those periods.

A general way of dealing with this kind of situation is to live off regular taxable savings in your younger years, then live off traditional pensions and retirement savings (e.g., 401k's and IRA's in the U.S.) in your older years. It's okay if you deplete those taxable savings far beyond a 4% SWR in your younger years, provided your traditional retirement savings or pensions will provide enough to support you later on.

You've got it right about inflation. If you're assuming that you'll get, on average, a 7-8% return from investments, and that inflation will average 2-3%, then if you use 4-5% as an estimated annual return, you will have already accounted for inflation in the future for your estimates. That is, your money in the future will have the same buying power as it does today.

[former player]

You might find this site useful, it's the Government of Canada Retirement Income Calculator -

https://srv111.services.gc.ca/INT_01.aspx?lang=eng

[starfish]

former player - Thanks.  I just played around with that government site a bit, and it looks like the numbers in my husband's leaflet from work was accurate.  Good to know. 

DoubleDown - That's an idea.  Ideally, I don't want to do that... I don't want to use up our savings, because I'd like to leave it to our kids.  Plus, I'd like to be able to help them out with school, weddings, etc... if and when we can. We also have Tax Free Savings Accounts, which are like retirement savings, except I think we can withdraw at any time without being taxed on the earnings. 

Is there a spreadsheet anyone has shared that sets everything out such that you can see how things increase and be able to look back through the years?  Rather than just plugging in the new numbers each year and not seeing how its grown.

[starfish]

I think I've found the total amount contributed to his work's pension plan, plus the earnings.  Should I use that in my spreadsheet instead of the monthly payout upon retirement  (in todays dollars, I think)?

Also, it says the interest credited is based on an annual rate of 1.55%... so its not growing more than inflation?  That's not a great investment, is it?  But later on it talks about "indexation" and a maximum annual increase of 8%... confusing.

[MooseOutFront]

Also, it says the interest credited is based on an annual rate of 1.55%... so its not growing more than inflation?  That's not a great investment, is it? 

This sounds similar to my wife's .gov pension.  The cash balance of her contributions is guaranteed to earn 2% annual, but this number is only relevant if she takes the cash instead of the retirement.  In our case that's probably what we'll do, but I'm looking for her to quit work at about age 40.

Circling back to the inflation and "real return" issue, the last post you made about it was seeing it correctly.  I use 5% in the calculator with the thought being that actual returns (nominal returns) will be 7-8% and that inflation will be 2-3%.  Using the real return number of 5% up front in your calculation allows you to keep future dollars on an apples to apples playing field with current dollars, which is helpful for planning purposes.  Sorry I'm not very good at explaining it, but I would certainly recommend some personal finance books like Bogleheads Guide to Investing and The Four Pillars of Investing to kind of hear it from a few different angles.

[starfish]

Ugh.  And now I notice that they are talking about the 'transfer ratio' being bad, that the pension fund couldn't currently pay out all its earned benefits if everyone retired now, and that the company would pick up the shortfall... unless its become insolvent... but things are looking up and we should have all confidence that its being dealt with competently. 

That's worrisome.  Although, perhaps its a reflection of the economic downturn affecting long-term investments, and it will balance out over 30 years?