How to Invest for Retirement at age 65?

In the Centre for Retirement Research at Boston College, Alicia H. Munnell, Anthony Webb, and Wenliang Hou looked at how much people should save for retirement .  The paper is available here – https://crr.bc.edu/wp-content/uploads/2014/07/IB_14-111.pdf

Before speaking about the finding I would say two things.  Firstly, retirement at 65 is outdated.  It is possible to retire much earlier or much later, depending in your habits.  Achieving financial freedom is a better way of calling it, rather than retirement.  Don’t believe those people who say young people will need to work until 70+. NEED being the optimal word here.  I like my job, but I don’t want to need to work.

Second there is a lot of academic research about best practice in the financial industry.  Average returns are less subjective than how much you need to save for retirement, though.  Some people can live a life in the garden with the grandchildren, whilst others spend even more in retirement than they do during their working lives.

Despite this, there are some best practices as the paper shows.  To estimate the target retirement rates, the researchers, in their one words, “assumes that the household’s goal is to accumulate sufficient wealth to generate a level of post-retirement consumption that equals consumption immediately before retirement. The household achieves this goal by choosing an age-varying saving rate. The target replacement rate is the ratio of post-retirement income to pre-retirement income associated with the optimal saving strategy. Pre-retirement income equals labor market earnings, imputed rent, and investment returns, minus mortgage and loan interest paid, all averaged over ages 20-65”

The researchers came up with the following figures:

Income Group	Target replacement rate
All	73%
Low Income	80%
Middle Income	71%
High Income	67%

This makes rational sense, regardless of the more technical reasons for the figures.  Higher income people tend to pay higher taxes before retirement, whilst low income people are already living more simple lives and pay more tax, so cutting back too much is dangerous.  It is realistic that somebody earning $200,000 could live off $140,000 in retirement, but how realistic is it for somebody earning $25,000 to live off $14,000?  

Moving on the researchers focus on how much each group needs to save, and the following figures came up:

Income Group	Required Savings Rate
All	14%
Low Income	11%
Middle Income	15%
High Income	16%

 

What is immediately clear from these figures is how high they are.  Many people have been advised that 10% is enough, when the academic evidence shows 10% is more like a bare minimum.  With that being said, how early you start, is the key to meeting your needs after 65:

Retire At	Start saving at 25	Start saving at 35	Start saving at 45
62	15%	24%	44%
65	10%	15%	27%
67	7%	12%	20%
70	4%	6%	10%

These figures are staggering and show the importance of starting early. A 45 year old, who wants to retire comfortably at age 65, may have to save 44% of their income to retire!

Of course, these figures can depend on many factors.  If you plan to live in a cheaper city or country, you may need far less than 70% of your previous income, even though health insurance isn’t free for Europeans and Canadians living overseas at 65+.  

If you live at home or have a good job when you are young and you save 50% of your income for 10 years, you may not need to save even 10% of your income after age 45, as the rate of compounding will be huge.

Please contact me at adamfayed@iamgltd.com  if you have any questions about this article or questions in general.