Take the question of saving for retirement.
How much should I save is just a complicated arithmetic question with a few assumptions. The purpose is to define the proper saving this month. If that is done and the variables play out as expected, then you have done all you can do. Since you won’t know how the variables play out for a very long time, saving the right amount is a good enough measure of current success.
How much will I need??
Using the data, calculate the net present value of retirement spending.
The answer relies on your lifestyle in retirement. Money is for using, not for hording. How much do you need? Think cash, not income. Money can’t tell if it is income or capital. The decision may be such that spending capital is better. You will need to check that out.
The number you need when retirement begins is based on several factors:
- How much cash will you consume each year? – lifestyle. Not income, just cash.
- How much will inflation affect it?
- How much of it comes from other sources like the government or pensions?
- How and when will you change your lifestyle. Inflating costs are offset by deflating ability to spend eventually.
- What yield can you expect given risk tolerance, skill, management time requirements, and availability of investments that match the other characteristics?
- What will the tax bill be to end up with money?
- How long will you need the money?
- What margin of error would make you comfortable?
How much should I save this month?
Given my expectation for inflation, yield, taxes and time to retirement I can calculate the savings this month that will make the accumulation equal to the net present value of retirement spending when retirement begins.
Then just do it.
What if it seems too much to save?
You always have choices. The formula however is immutable, so you must change some assumptions. The formula depends on capital invested and spent, inflation, yield, tax rates and time. The choices are:
- Reduce retirement spending. Your future self may be upset with your present self if you make that choice
- Increase yield. Possible, but usually only at a price. Sometimes you can input more than money. Maybe some special knowledge. Maybe a rental property which will require some of your time and handyman talent. Maybe take more risk. They call it risk taking because you might do worse. If it was certain, they would call it sure thing taking.
- Reduce the tax burden
- Take longer to accumulate the money. Retire later is an unpleasant choice for many.
- Don’t live so long. Again not a first choice for many.
Seek alternative ways to get what you need?
Maybe there are more efficient ways to do some of the things you are doing now. You might not have access to all the tools or knowledge enough to pick correctly. Seek help.
Increase you ability to save by better cash flow management. Maybe there are some disposables in your current lifestyle spending. Shopping for price is an easy advantage to gain.
Better debt management. Shop for rates. Asking a bank, “is that the best rate you can offer me on this mortgage?” takes about 5 seconds. A 0.5% reduction on a $200,000 mortgage saves about $1,000 the first year. Where else can you earn $720,000 per hour after taxes?
Be organized and disciplined
Life is not so hard once you know what you want to accomplish, what you have to do it with, and when you need the result. Then you just invest the time, energy and discipline to follow through.
Following through means being accountable and acting on what you find. The 3 Rs help. Record, review and revise.
Not magic. Just common sense and discipline.
Don Shaughnessy arranges life insurance for people who understand the value of a life insured estate. He can be reached at The Protectors Group, a large insurance, employee benefits, and investment agency in Peterborough, Ontario.
In previous careers, he has been a partner in a large international public accounting firm, CEO of a software start-up, a partner in an energy management system importer, and briefly in the restaurant business.
Please be in touch if I can help you. firstname.lastname@example.org 866-285-7772