Financial services giant Fidelity has a retirement savings rule you may have heard of: Make sure you have ten times your annual salary saved for retirement by age 67. This often-cited guideline can help you identify a goal for retirement savings, but it doesn’t fully take into account how much of that savings will be covered in retirement.
Enter Fidelity’s 45% rule, which states that your retirement savings should generate about 45% of your pre-tax income before retirement each year, with Social Security benefits covering the rest of your spending needs.
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The financial services provider analyzed spending data from working people between the ages of 50 and 65 and found that most retirees need to replace between 55% and 80% of their pre-retirement income to maintain their current lifestyle. Because retirees have lower daily expenses and typically do not contribute to their retirement accounts, their income requirements are lower than those of people who are still working.
As a result, a retiree earning $100,000 per year would need between $55,000 and $80,000 per year in Social Security benefits and savings withdrawals (including retirement benefits) to continue their current lifestyle.
Fidelity’s 45% guideline requires that a retiree’s savings pot be large enough to annually replace 45% of their pre-retirement, pre-tax income. Under this rule, the same retiree who earned $100,000 per year should have saved enough to spend $45,000 per year, in addition to his Social Security benefits, to finance his lifestyle. Assuming the person lives 25 years beyond retirement age, this person would need $1.125 million in savings.
A financial advisor can help you make forecasts for your own pension. Make a match with a financial advisor today.
Income before retirement plays an important role
Under the pension rules, saving 10 times your salary before the age of 67 is the most important thing. But employees should also be able to plan in another way by ensuring that their savings provide 45% of their pre-tax income, before retirement.
But all retirement plans are not created equal. Those who have earned less money during their careers will have saved less than high-income earners, and as a result will need to replace more of their income before retirement.
“Your salary plays a major role in determining what percentage of your income you will need to replace in retirement,” Fidelity wrote in its most recent Viewpoints. “People with higher incomes typically spend a small portion of their income during their working years, and that means a lower income replacement goal in percentage terms to maintain their lifestyle after retirement.”
According to Fidelity, someone making $50,000 a year would need savings and Social Security to replace about 80% of their income in retirement. However, someone making $200,000 could get by in retirement by replacing just 60%.
Social Security plays a less important role in the retirement plans of higher-income workers. Consider the table below:
Replacing Income Using Fidelity’s 45% Rule Pre-Retirement Income Replacement Rate from Savings Social Security Replacement Rate Total Replacement Rate $50,000 45% 35% 80% $100,000 45% 27% 72% $200,000 45% 16% 61% $300,000 44% 11% 55%
According to Fidelity, a retiree who earned $50,000 a year would receive 35% of that income through Social Security. But for a high-earning individual making $300,000 a year, only 11% of their income would be replaced by Social Security benefits. Although higher-income earners don’t need to replace as much of their income before retirement, retirement savings plays a more important role for these types of retirees.
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In short
Under the pension rules, saving 10 times your salary before the age of 67 is the most important thing. But workers also need another way of calculating: planning for their savings to provide 45% of their pre-tax income, before retirement.
Fidelity’s 10x rule of thumb is a useful guideline to follow as you save for retirement over many decades. But as retirement age approaches, Fidelity recommends that your savings should cover 45% of your income needs, with Social Security covering the rest. As a result, the average retiree will need to replace between 55% and 80% of their pre-retirement income, before taxes, to maintain their current lifestyle.
Retirement planning tips
A financial advisor can be invaluable when it comes to planning for your retirement. Whether you’re saving in tax-advantaged accounts or identifying your income needs, an advisor can help you with your retirement planning needs.
Finding a qualified financial advisor doesn’t have to be difficult. SmartAsset’s free tool matches you with up to three financial advisors serving your area, and you can interview your advisors for free to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
Although people can begin collecting Social Security benefits at age 62, delaying collection will result in higher benefits. SmartAsset’s Social Security Calculator can help you develop a collection plan that will help you maximize your benefits and enjoy your retirement.
Have an emergency fund on hand in case you encounter unexpected expenses. An emergency fund should be liquid – in an account that is not at risk of significant fluctuations like the stock market. The trade-off is that the value of liquid cash can be eroded by inflation. But with a high-interest account, you can earn compound interest. Compare savings accounts from these banks.
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