Am I On Track for Retirement?
Not long ago, we posted a video on our YouTube channel that explained how much you’d need to save as a percentage of your current income in order to retire with 80% of your pre-retirement income, based on any given number of years before retirement.
In other words, we addressed the percentage of your paycheck you need to set aside now to retire in 10, 20, or 30 years.
Thankfully, a lot of people watched the video but the method I used to calculate those percentages was more geared toward investors who are just starting out on their journey.
What if you’ve already been saving for a while? How do you know if you’re on track to accumulate enough to retire when you reach retirement age?
In this post, I’m going to cover four different methods you can use to help you evaluate whether or not you’re on track for the retirement you want.
As we go, the methods we share will grow in accuracy, but the tradeoff for that is additional complexity. My advice would be to take a look at all of them and use the method that best suits you.
1) Fidelity multipliers
The first popular method is what I call the Fidelity Multipliers of Income. Truthfully, there are many investment companies out there with some version of this, but Fidelity’s is the first one I remember seeing years ago so I’m giving them the credit.
This is obviously an incredibly simple way to make a projection. It’s literally just multiplication.
I’ve honestly never really looked into how Fidelity came up with these numbers, but they would have had to make some assumptions about savings rates, retirement expenses, income in retirement and rates of return, among other things.
In other words, this was probably designed for a very average investor, and there’s not anything wrong with that as long as you understand the limitations and margins for error.
Everyone is unique, so this isn’t going to be very accurate for a lot of people.
For example, having only 10 times your income at age 67 seems woefully insufficient to me.
Even if you only spent 70% of your pre-retirement income, that would still be a drawdown rate of 7% if your portfolio was 10x your pre-retirement salary.
The broadly accepted rule for your retirement drawdown rate is 4%, so 7% is obviously much more aggressive; too aggressive if you ask me.
I would be concerned about having enough money to last through the remainder of my life at this rate.
Not that I know more than the thousands of people who work hard for Fidelity every day, but here is my own take on the multipliers of income table:
This is much more aggressive, but I think it’s also very achievable. It also finishes with a much more realistic 4% withdrawal rate to meet your pre-retirement income needs.
In summary, the multiplier is a quick and easy way to evaluate your progress, but I would not depend on it as my only progress report.
2) Millionaire Next Door Method
Back in 1996, Thomas Stanley and William Danko published a revolutionary book titled The Millionaire Next Door.
The basic thesis of the book was to illustrate how most millionaires in America (there were far fewer back in 1996) lived very average and unassuming lifestyles. Most of their wealth was secret, hidden, undisclosed, and certainly not obvious based on their consumption habits or lifestyle.
The book goes on to share seven behaviors that Stanley and Danko found consistently among these millionaires. I HIGHLY recommend the book, even if it is almost 30 years old.
As part of their process for evaluating millionaires, the authors created a formula to classify each as either an under-accumulator of wealth (UAW), an average accumulator of wealth (AAW), or a prodigious accumulator of wealth (PAW).
In other words, the goal of the formula was to highlight whether or not one was on track to be an average accumulator of wealth.
The formula is…
(YOUR AGE x YOUR PRETAX INCOME)/10 = EXPECTED NET WORTH
The “prodigious” designation was reserved for those who had saved twice this amount. The “under-accumulator” designation was reserved for those who saved around half of the average rate.
For example, if you are 50 and you earn $100,000 per year, you should have $500,000 saved. [(50 x 100,000)/10]
Seems simple enough. Once again, it’s a useful and quick way to measure progress, but there’s a small issue.
It doesn’t treat young people very fairly.
Let’s take the same example above ($100k salary), but do so for a 25-year-old.
25 x $100,000 / 10 = $250,000
Even with a six-figure salary, one-quarter of a million dollars saved by age 25 would be quite the accomplishment.
Also, in this example, should someone in the very first few years of their career is expected to have half the assets of a similar, but much older person?
Should their portfolio double only once in the next 25 years that would give them an average annual rate of return of just 4%. Such a paltry rate would be a challenge, even for the most conservative of investors.
Someone else noticed this before me and created an alternative that I think serves to improve the Millionaire Next Door formula considerably.
3) Money Guy Method
The Money Guy Show is a podcast I frequently listen to hosted by professional financial planners, Brian Preston and Bo Hanson.
Brian and Bo are also big fans of The Millionaire Next Door and they too feel like the formula in the book is a bit unfair to young people, so they created an alternative.
In their formula, if you’re under 40 years old you still multiply your age by your income, but instead of dividing this amount by 10, you’ll divide it by the number of years until you’ll turn 40, then add 10.
In mathematical terms, [(Age x Income) / (Years until 40 + 10)] = EXPECTED NET WORTH.
So, if you were 25 years old and you had an annual income of $50,000, your AAW number would be $50,000. (25 x 50,000) / (15+10)
Under this formula, once you reach age 40 you simply revert to the original Millionaire Next Door formula we discussed earlier.
This is a thoughtful revision to the Millionaire Next Door formula and one of the best “back of the envelope” methods I’ve found for evaluating your progress toward retirement.
4) Future Value Equations
For those of you who want to have a highly accurate picture, you could just do the math.
The formula below is for calculating a future value (FV) based on the amount you have saved now or your present value (PV) and a given interest rate (r) for a certain number of periods (n).
FV= PV(1+r)^n
To illustrate further, let’s assume you have $100,000 saved and want to know what it will be worth in 25 years with an expected annual rate of return of 8%. The solution is as follows:
FV = 100,000(1+0.08)^25 = $684,847.52
This means $100,000 saved today will be worth $684,847.52 in 25 years with an 8% annual rate of return.
Unfortunately, even this method is lacking in at least one significant way. It doesn’t account for any future savings.
Odds are you’re reading this because you are still on your path to building retirement savings, so it’s likely you have plans to make future contributions.
Well, there’s a formula for that too:
FV = PMT × ((1+r)^n−1)
As an example, if you were planning on contributing $5,000 annually to a retirement account for 25 years and were expecting the same 8% return annually, the future value would be as follows:
FV = $5,000 x ((1 + 0.08)^25 – 1)/.08 x (1+0.08) = $394,772.08
It should be noted that this basic forecast I’ve provided assumes you’ll make annual contributions at one time. You’ll have to adjust the formula to account for the frequency of your future contributions if they aren’t made once each year.
So, if you plan to contribute $417.67 monthly to meet your $5,000 annual savings goal, you’ll need to set the PMT amount to $417.67, then divide your rate by twelve (0.08%/12 = 0.00667%). Also, the number of periods will go from 25 years to 300 months (25 x 12 = 300)
To combine this future value of contributions assumption with your forecast for the balance you already have invested, just add the two together.
In the case of our examples above, your total portfolio value after 25 years would be $684,847.52 + $394,772.08 = $1,079,619.60
If you use these formulas often, you’ll become quite skilled at using them.
To me, there’s an even easier way that captures the same level of complexity while also providing a better opportunity to visualize the results.
5) Build A Spreadsheet
For almost two decades now, I’ve been making forecasts like this in an Excel spreadsheet that I update frequently. I prefer this method because I only need to set up the formulas in the spreadsheet once, and then I can change the variables to see how savings rates, investment performance, and time all impact my future portfolio.
What follows is an example of how I set up my personal forecasting spreadsheet. The beauty of Excel is that you can make this as simple or elaborate as you wish.
To begin, instead of setting up a field of variables and setting up one cell to report the results, I like to make a column for each variable.
Next, set up a small group of cells where you’ll enter data which will be used to populate the columns with independent variables. In this case, there are only three: the beginning balance, your expected rate of return, and your annual contributions.
Next, enter some data for your independent variables. In this example, we’re going to use the same data points from the examples above.
Now you need to tie the cells in your columns to your independent variables. We already have a balance of $100,000, so we’ll simply tie cell B2 to H3 by entering the simple equation =H3 in cell B2.
Do the same for cells C2 and D2.
Next, enter the formula, =(B2+C2)*D2 in cell E2. This will give you a projected annual return based on your contribution of $5,000 and your beginning balance of $100,000.
The result is a projected return of $8,400.
Next, add your beginning balance to your projected earnings using the formula =B2+C2+E2 in cell F2.
Now you have a full year’s worth of contributions and earnings accounted for.
Now it’s time to carry this forward into the future. Instead of using the complex formulas we went over earlier, we’re simply going to build each year off the preceding year.
For year two, set your beginning balance by tying it to the ending balance from the previous year using the formula =F2 in cell B3.
Next, enter formula =C2 in cell C3 to tie your contributions back to the projected amount. If you want to add to the formula here to account for inflation you can. For example, if you enter the formula =C2*1.03, your contribution rate will now have an inflation factor of 3%.
Come to think of it, you could add inflation as an independent variable and add a cell reference to it here, allowing you to see how fluctuations in your inflation assumptions impact your portfolio.
In this example, I’ve elected to ignore inflation.
Set cell D3 to equal D2 using the formula =D2 in cell D3 to maintain the same anticipated rate of return.
For cell E2, grab the small square at the bottom right corner of the cell when you have it selected and drag it down one cell.
This simply drags the same formula down one row and applies it to the data points in row 3.
Do the same for cell F3.
Now you have two years finished.
Now just drag the formulas down in each column to finish populating the spreadsheet for all 25 years. (Note, you can also do this by just double-clicking the little green square.)
You’ll note that this is the same total amount from our formulas earlier, but now you can edit the variables in the colored cells above to see how it would impact your projected portfolio value if you earned a higher interest rate, contributed more, etc.
As I mentioned before, I’ve used this method for two decades now and prefer it over any app or software I’ve ever tried because I can personalize it so well.
6) Caveats
I want to be very clear about a few things as we wrap this up.
First, these are all ways to approximate your future portfolio. There are several factors these methods don’t account for which would typically be included in a professional cashflow projection.
With that said, even the most sophisticated financial planning methods must make some assumptions. There’s just no way to account for everything.
None of this is financial advice. Use these methods at your own risk, which is a great segue into my second point.
The quality of your conclusions is dependent upon the quality of your data.
It’s one thing to forecast a savings rate of $5,000 per year; it’s another thing to achieve it.
It’s one thing to forecast returns of 8% per year; it’s another thing to achieve it.
The single greatest source of failure in most financial plans isn’t the math; it’s a lack of follow-through for the people who the plan is designed for.
You can edit variables in your scenario to paint any retirement picture you want, but it’s of little to no value if you don’t follow through.
Be accurate with your inputs and stick to your plan.
Conclusion
The fact is getting to retirement is a journey and it never goes in a straight line.
You can pay professionals to make projections for you, but it is very useful to be able to get an approximate bearing on your own so you can more or less keep things on course.
I hope the information in this article has been helpful to that end.
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