Why to use the 15% rule for saving for retirement

15 ballPhoto courtesy of Grant Tarrant

WARNING: This post contains math.

Last time, when I talked about saving for retirement, I mentioned that I put away at least 15% of my income away in retirement. It occurred to me that some readers may feel like I’ve taken that number randomly.

To be fair, I didn’t invent the number. I find it to be a standard value given by most financial advice-givers, though some see it as a floor rather than a ceiling.

I think it’s a good rule of thumb. But why? Let’s see.

What does 15% get you?

So the rule is: save 15% of your gross income for retirement.

What will that give you? Now, everyone’s situation is different, so we’ll have to make some assumptions. To make things less abstract, let’s assume that you make $50,000 a year, which is within striking distance of the median household income in the U.S. today. Let’s also assume that your income is fixed at that amount forever; you start out at that amount and never get a raise ever. Neither are particularly likely, but I believe that for the sake of calculation they balance each other out.

So what is 15% of $50,000? $7,500. That turns into $625 a month.

So that is how much I recommend you put away if you make $50,000 a year.

Now, more assumptions. Let’s assume that you’ll make an average annual return of between 6% and 9%. So if you save $625 a month for 30 years, you’ll have between $628,000 (6% return) and $1.1 million (9% return).

Do you think you could retire on that amount?

Well, if we further assume that we can take about 4% a year without losing our principal, we get a range of about $25,000 to $45,000 per year. That turns out to be between 50% of our pre-retirement income to 89% of our pre-retirement income.

Now, standard wisdom is that you don’t need to live on 100% of your pre-retirement income when you’re in retirement (estimates say it’s more like 70%-80%) so in all but the lowest estimated case here, you’d be on track for that. And I repeat: we’re talking about never running out of money here.

This is why I like the 15% rule of thumb. It gets most of us to the retirement amount that we’re going to need.

Run your own numbers

Note that the $50,000 example I used was just that, a way to plug in the numbers.

But the percentages are the same even if you assume a different income level. For example, if you say you’re going to make $30,000, you’ll have between $15,000 (50%) and $27,000 (89%) each year to spend in retirement if you invest 15% of your income for 30 years. If you say you’re going to make $100,000, you’ll have between $50,000 and $89,000 each year to spend in retirement.

Do you think you can do this? I think you can. You may not be able to get there immediately, but I believe you can get there.

If you can’t hit that 15% mark right now, give it time. As you make more money, put more away. After all, I didn’t start hitting 15% until recently, and only then it was after I had paid off all of my other debts.

If you don’t have 15% to put away, you’ll need to save for longer. If you don’t have 30 years, you’ll need to put away more. Everyone’s situation is different, and we did use a fair amount of estimates and assumptions here. (Please, as always, check my work.)

But if you remember nothing else, aim for 15%. Or work up to it. That number is used with good reason.

But enough about me: How much do you put away for retirement?

As always, this site is for education purposes info, and is not official legal or investment advice. Please don’t be foolish. Thanks.

Mike Pumphrey

Mike Pumphrey

I'm the founder and author of Unlikely Radical, a site to help people succeed with money, achieve their goals, and live intentionally.

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Mike Pumphrey
Posted on October 27, 2016