Today’s topic comes from Scott, who says:

“I’ve contributed to my 401(k) for many years and have a decent balance. I’m unsure if I should keep investing the same amount each year or make some sacrifices and contribute more. My question is, how do I know if I’m saving enough for retirement?”

Scott, thanks for your question! Knowing if you’re on a path to financial success is critical for staying motivated and making wise decisions. This post will review ways to understand how much you need to save for retirement and if you’re on track to achieve it.

How much money do I need to retire?

Saving for retirement is the granddaddy of all financial goals because it requires a considerable nest egg to ensure you never run out of money. But how much you need to retire isn’t a one-size-fits-all answer because everyone’s financial situation, health, and wishes are different. 

Use the following six steps to estimate how much money you need for retirement and if you’re saving too much or too little.

Estimate your retirement spending.

To know if you’re saving enough, you must calculate a retirement goal based on your desired income. A secure retirement is one with enough savings and investments to preserve some or all of your pre-retirement income. 

For instance, many retirement planning experts recommend you estimate spending 80% of your pre-retirement income. That’s because you won’t have expenses like retirement contributions, mortgage payments, or commuting to a job after you stop working.

However, depending on inflation and your desired lifestyle, you may have higher retirement expenses or new costs, like travel, hobbies, and healthcare. In that case, you might need to estimate a retirement income equal to 100% or more of your current income.

Consider your longevity.

How long you live is, of course, the biggest unknown when planning for retirement. However, one of the most critical factors in saving enough is how long your retirement will last.

The average U.S. lifespan is 79; however, if you’re relatively healthy at full retirement, statistics show you’ll live well into your 80s. If you have a good family health history and take care of yourself, you could need retirement income into your 90s. 

Think about your health status and family health history, and take an educated guess about how many years you’ll need income in retirement. Also, remember that women tend to live longer than men, with an average life expectancy of 81 versus 76.

Decide when you want to retire. 

The next step is deciding or contemplating when you want to begin your retirement or work less. The U.S. average retirement age is 65 for men and 62 for women. Most people use the age at which they’ll start receiving Social Security as a default. But if you accumulate a large nest egg, retiring much earlier is possible.

If you retire early and live long, you might need retirement income for 30 to 40 years. So, remember that the earlier you need income, the more you should save.

Know your future income sources.

How much Social Security retirement benefits or other income, such as a pension, is critical for accurate retirement planning. Social Security may replace 30% of your pre-retirement income if you’re a typical worker. Few companies offer pensions, but professionals such as teachers and government workers may receive generous guaranteed benefits from their employers.

If you’re starting your career, you may not have enough information about your future Social Security benefits to consider it fully in your plan. However, it’s still essential to understand how the system works.

Social Security is an excellent source of income for most eligible U.S. workers. The program is a group of benefits for people who are retired, disabled, or survive a relative receiving benefits. Note that workers covered by a different system, such as federal and railroad employees or state workers who qualify for a pension, are typically not eligible for Social Security retirement benefits. 

Social Security is funded by payroll taxes and the self-employment tax. You must work for 40 quarters or at least ten years to qualify for it. The calculation for how much you’ll receive is based on the average of your highest 35 years of earnings. If you worked under 35, the missing years get factored in as $0 income. And if you worked more, only your highest-earning years get considered.

Listen also: In another special Friday BONUS episode, Laura answers a listener’s question about Social Security retirement benefits and the future of the program. Listen in the player below.

The Social Security retirement benefit you receive varies widely depending on the age you claim it. The full retirement age has gradually increased from 65 to 66 if you were born between 1937 and 1959. If you were born in 1960 or later, it’s 67.

However, no matter when you were born, you can elect to take early retirement benefits as soon as 62. The problem is that you receive a permanently reduced benefit, so early retirement isn’t always the right decision.

To increase your payout, you can delay retirement until age 70. If you were a high earner and retired at 70 in 2023, your maximum monthly benefit would have been $4,555. That’s about 25% more monthly income than starting benefits at your full retirement age–and 77% more than taking an early retirement! 

So, if it makes sense to wait several years for benefits, it’s a simple way to lock in a more secure retirement that adjusts annually for inflation for the rest of your life.

If you’re a middle-class American who fully retired in 2023, you could expect an average monthly benefit in the neighborhood of just under $1,800. And the average is about $1,700 for those who claimed an early retirement in 2023.  

If you want to learn more about Social Security, go paperless, check your earnings history, and see your estimated future retirement income, create an online account at SSA.gov. Review your reported earnings for errors because mistakes could keep you from receiving all the benefits you’re entitled to.

RELATED: 4 ways to start a retirement account as a self-employed freelancer

Evaluate how much you’ve saved.

If your employer offers a tax-advantaged workplace retirement plan, such as a 401(k), 403(b), or 457 plan, that’s the best place to save. If you don’t have a retirement plan at work or are self-employed, you have other options, such as an IRA, SEP-IRA, or solo 401(k). All these plans cut taxes and make it easier to build a nest egg.

Your current retirement account balance significantly affects how large your nest egg will be. The sooner you begin saving, the more compounding interest works in your favor to grow your balance.  

READ ALSO: 10 IRA facts everyone should know 

Estimate your future savings.

Once you estimate your future expenses, how long you’ll have them, and what your future income will be (or needs to be), you can see the gap you must cover with your savings. 

A general rule of thumb if you retire in your 60s is that a 4% withdrawal rate (adjusted for inflation) should allow you to avoid outliving your money. The closer you are to retirement, the more precise your calculations must be.

The primary factor you can control is how much you contribute to a retirement plan now. If you start relatively early, saving at least 10% to 15% of your gross income in a tax-advantaged retirement account should help set you up for a comfortable retirement. If you get a late start, you may need to save 25% or more to catch up on retirement savings.

Your average pre-retirement investment return determines how quickly your balance can grow. For example, investing $200 monthly for 40 years at a 3% return would grow to $185,000. But with an 8% return, you’d have $700,000. 

READ ALSO: How many retirement accounts can you have?

How much money should you save for retirement?

Most people must accumulate about eight to 10 times their annual income to generate enough retirement income. For example, if you earn $100,000, having at least $1 million to kick off your retirement is a good goal.

Let’s say you earn $100,000 and want to retire at age 67 with 80% of your pre-retirement income, or $80,000. You can likely count on getting about $30,000 a year from Social Security; the remaining $50,000 must come from savings.

Assuming you’ll live 30 years and continue earning a conservative rate of return on your nest egg, getting income equal to 5% per year is reasonable. If you divide your annual desired income by this rate, that’s a total savings of $1,000,000 ($40,000 / .05 = $1,000,000).

Many retirement planning unknowns exist, but these basic calculations give you an estimated goal. If you’re not on pace to have what you’ll need for retirement, it’s time to increase your savings rate.