Posted by Tim Stobbs on November 9, 2009
You might have noticed if you have read this blog for a while that I’m not a big fan of rules of thumb. Often they oversimplify things or just fall apart outside of a narrow band of application. What really gets me is some people follow them blindly only to realize that they screwed up their retirement dreams. So here are a few rules that you should just ignore.
- Save 10% of what you earn for retirement. Someone obviously forgot to tell the person who came up with this one that your saving % is a sliding scale. When you earn more it is easier to save way more than 10% and when you earn very little even 10% can be hard. Also you age, family situation and a thousand other factors will determine what you can do. Find what you can do regardless of it is 60% or 5% and adjust as you go.
- You need about 70% of your working income in retirement. This is one is so wrong I’m always not sure where to start. First off your required income in retirement has nothing to do with your working one. Instead it is related to your spending prior to retirement. Then depending on your retirement lifestyle you could need anywhere from 30% to 110% of your working income. It all depends if you want to vacation for six months of every year or stay at home most of the time and read library books. Do a budget based on your spending and you should be a lot closure than this rule.
- The 4% rule. Which states that you can typically withdrawal about 4% of your portfolio each year on an inflation adjusted basis and not run out of money in your retirement. I do use this one for quick back of the envelop type of analysis. I would not hang your entire retirement plan on this number, because again things slide around depending various factors. If you retire at 50 or younger you might need to plan for around 3%, while if you retire at 70 you might want to use 5%. The reality is this rule is a function of age at retirement, stock/bond split in your portfolio, when you die and your comfort level with risk. Do your homework prior to assuming you can use this one.
- Everyone should… If you every hear these words prior to advice about retirement your brain should automatically generate the following message: bullshit. The reality is retirement planning is a unique thing. There are certain trends and helpful hints, but there is nothing that applies to everyone in every situation. It sucks for everyone when it comes to planning to realize this, but it is true.
I think perhaps that last point is key to all rules of thumb. Your retirement plan will be unique. It might have certain similar things to others, but it won’t be the same. We are all different and so must our plans. Read what you can and expand your exposure to ideas and make up your mind what will work for you. Yes it means work, but it’s better to do a bit now and avoid a big surprise or two later on.