Friday, November 10, 2017
Rules Of Thumb For Retirement Decisions.
Over the years I have heard various rules of thumb for teachers who want to reach their safe and secure retirement goals. These rules of thumb include the combination of age and years, asset allocation, amount to withdraw, doubling their money, and amount to save. This post will explain each rule of thumb that teachers might want to use to plan their retirement. Remember, these rules of thumb are only simple guides and not ironclad guarantees.
Savings Rate: The savings rate necessary to ensure a safe and secure retirement in the future is 15%, excluding pension and social security and approximately 10% when you include the two. For younger teachers,every time they receive a raise in their salary, add 1% to the savings rate. That includes both step raises and contractual raises.
Asset Allocation and Age:
For teachers the rule of 120 is usually recommended. That is taking 120 minus your age and that is what should be invested in equities and the rest in a Fixed Income or Bond Fund. For example, if you're 40 years of age, then its 120 - 40 = 80% equities/ On the other hand if your 70 years of age, its 120-70 = 50% equities. For the risk adverse, you can substitute 100 rather than 120, which is what was commonly used before 2010. A simple method is to use your age to determine the percentage of bonds and other fixed income instruments. Age 65 = 65% bonds and other fixed income options.
Doubling Your Money:
The rule of 72 is commonly used for long-term investments, based upon historical average rate of return. Obviously, if your investments exceed the historical average, you will double your money at a faster rate. The ule of 72 is as follows: 72 /7% = 10.28 years. I used the TDA's Fixed Fund of 7% since 65% of all TDA funds are in this option. The rule of 114 is used to triple your money and the rule of 144 is used to quadruple your money.
Obviously, its different for different educators. However, a general rule of thumb used by accounts for civil servents is the rule of 88. Any combination of age and years worked towards a pension that equals 88 is when an educator should retire. According to prople who follow this rule, beyond the number, the financial incentive rapidly diminishes. Playing with various retirement scenarios the rule of 88 seems to work, for the most part. For example, if a teacher retires at 62 with 26 years in, the combination equals 88 and that is the time to retire. Does it work for all scenarios? Obviously not but its a fair estimation of when an educator should retire.
A conservative withdrawal rate once you retire, is called the 4% rule. The 4% rule has proven to have worked under various scenarios and is used as a first withdrawal method. The 4% rule allows for the retiree to withdraw 4% of his or her total investment and adjust it for inflation year after year. For example assume a total investment of one million dollars. The 4% rules allows the retire to withderawal $40,000 that year/ If inflation rises 3% the next year then the retiree can withdraw the $40,000 plus the inflation rate the next year. For example, 3% of $40,000 is 1,200. Therefore,the inflation adjusted withdrawal is $41,200. If the next year the inflation rate remains at 3% then the following year's withdraw would be $41,200 x1.03% = $42,436.
These rules of thumb are simply guides and not the final say for saving, selecting a retirement date, and withdrawing your money.