How much is enough to retire?

The most common answer is the famous 4% rule. See here for its pros, cons and limitations.

First, estimate your retirement annual expense. Ideally you would pay off your mortgage. You might want to travel more and spend more time and money on your hobbies. Based on this, you adjust your current expense for retirement.

Then, divide the annual expense amount by 4% or times it by 25. That is how much you might need to retire. For example, if you estimate annual expense at $100K in retirement. 25 times of that is $2.5M.

You can’t just keep this $2.5M in cash or even high interest saving account or all of them in bond. You need some growth if you don’t want to run out of money. The key is to invest this amount in a diversified portfolio to earn high enough return to beat the combination of inflation and withdrawal. Moreover, the portfolio needs to withstand any risk of market crash. That is for another post.

Some might ask if you retire early than 65, do you need more than $2.5M assuming your annual expense is still $100K. Some experts said the 4% rule is only for regular retirement starting at 65. That’s why RRIF lowers the minimum withdrawal rate if retirement starts earlier than that. I personally think if one keeps annual withdrawal rate no higher than 4% and have a well-diversified portfolio with annual return higher than the combination of inflation and withdrawal. It should be fine. However what if the market crashes right when you start retirement? Let’s talk about it in another post.

However, some might overlook the question of what retirement lifestyle that they need rather than want. I heard a retired nurse got depression because she lost her sense of purpose after retirement. Therefore, it is not just money and numbers for retirement. It is a journey of self-discovery just like any stage of life. That’s why many continue to do some part-time work to keep active and social in retirement. Some extra income would not hurt given the ranging inflation these days.

If you have not started, the time to act is now. I recalled a colleague didn’t contribute to the company defined benefit pension when he joined the company in his 20s because he thought retirement is too far away. He missed out more than $200K worth of pension benefit because he was 14 years late to contribute. The total contribution would be around $45K. That means that the annual return is more than 20% which is double the stock market return in the past several decades.

The company switched to defined contribution pension a few years ago. Defined benefit pension is rare these days because it is more expensive for employers and generous for the employees. Given the aging population, many employers changed to defined contribution to save cost.

Please do not wait to plan for your financial freedom. It doesn’t mean you want to stop working. It just gives your more flexibility to choose how you want to live.