Using“4 Percent” and “25x” Rule to Calculate Saving For Retirement.

It is never too late to start saving for retirement. In order to retire with an ease of mind, here are some fundamental questions you want to ask yourself:

· How much should I save?

· Will I be able to save up enough money from now until I retire?

· Am I allowed to withdraw per month?

These are not easy questions to answer. Too little in saving will lead to running out of money in old age. Too much saving could get you a beautiful funeral and keep your children happy. Rules such as the “4 Percent” or “Multiply by 25” are far from perfect but it will give us an idea.

Multiply by 25 (25X) Rule

It estimates how much money you’ll need in retirement by multiplying your desired annual income by 25.

Related: How overthinking can cost you money.

For example, my monthly expense is around $4,000, which is equal to $48,000 annually. If I want to continue spending about $48,000 a year in my retirement age, I will need $1,200,000 ($48,000 x 25) in total saving. Once I reach this milestone, I am financially free.

To get to this goal, I have to put away $2,852.29 every month for 35 years. Here is the summary chart:

This method does not count other sources of retirement income such as pension, rental properties, or social security. If I can put away more money each month, I don’t have to wait 35 years to retire. I won’t have access to social security if I retire early.

25X Con

I don’t like to use this method to calculate my saving for retirement because:

• It is not a guarantee that I will be able to afford to put away $2,852.29 every month in my saving account. In a situation such as the needs to buy a new car or lousy health issues.

• Even though this method is 100% risk-free, it will take way longer for me to get to $1.2 million. Instead, I will invest my money into S&P500. The Standard & Poor’s 500® (S&P 500®) for the ten years ending December 31st, 2016, had an annual compounded rate of return of 6.6%, including reinvestment of dividends. From January 1, 1970, to December 31st, 2016, the average annual compounded rate of return for the S&P 500®, including reinvestment of dividends, was approximately 10.3% (source: standardandpoors). Let’s say I put the same amount of money every year for 35 years into an S&P500 with a conservative interest rate of 4%:

4 Percent Rule

It helps in figuring out how much you should withdraw annually once you reach retirement age. In the first year of retirement, you should withdraw 4 percent. After that, you can continue to remove the same amount, adjusted for inflation.

For example, you retire with $800,000 in your saving account. In your first year, you withdraw $32,000. ($800,000 x 0.04 equals $32,000.) The following year you withdraw the same amount, adjusted for inflation. Assuming 2 percent inflation, your second year’s withdrawal would equal $32,640 ($32,000 plus 2%of $32,000), the third year’s draw would be $33,292 ($32,640 plus 2% of $32,640).

Financial planner William Bengen created the 4 Percent Rule. It is a grand theory which has been tested through academic research and proven to be useful from time to time. The 4% rule is covered in detail in the Trinity Study.

Takeaway points

It is safe to say that “Multiply by 25” and “4 Percent” are more like a guideline than a rule. Each scenario is different, so it is nice to have something to compare. Saving is good, but investing is much better. So while having a big saving account is worthy retirement goal, it’s not your only one. It is also essential to keep your health so you can enjoy the money you worked so hard to earn and save during your career.

Thank you Rob Berger from Forbes.com, Maurie Backman from Fool.com, Dana Anspach from Marketwatch.com, and Paula Pant from Thebalance.com for helping me with this project. Calculation charts are from Investor.gov. My goals are to share my ideas, promote positive thinking and motivate everyone to do better in their personal finance.