Friday, October 25, 2013

Retirement Begins at 22 (Addendum)

I feel compelled to spend a little time deconstructing the retirement example that I used in yesterday’s post.

A young couple gets married at age 22. They have little or no money. I like to tell people my wife married me for my money. I had $900 in the bank, a car worth less than $600, and a stereo worth about the same as my car.

This young couple earns a combined gross income of $60,000 a year. $30,000 a year is not an impossible sum by any stretch of the imagination.

Pay attention! I am assuming neither one of these young people ever get a raise or a promotion during their entire 40 year working life. In fact, if they are earning $60,000 a year at age 22, it is more likely they will be earning something like $200,000 a year at age 62 if they both continue to improve their value as employees throughout their careers. Even if the wife becomes a stay at home mom who never returns to the workforce, a family income of $125,000 a year is not unreasonable.

Saving $9,000 a year (15% of pretax income) in tax favored accounts will be tough in the early years, but not impossible. In the later years of this marriage saving $9,000 a year will be insignificant.

Sigel’s Constant, based on a highly respected study of the American stock market from 1802 to 2002, predicts an amazingly constant 6.5% to 7.0% real equity return over sufficiently long periods of time. The return on bonds is more erratic but Siegel’s studies indicate 3.5% is a reasonable expectation.

A 5.5% rate of return on an age appropriate mix of stocks and bonds over a lifetime is not an unreasonable expectation.

Studies indicate that family living expenses in retirement run about 80% of preretirement expenditures. Therefore this couple now 62 needs about $48,000 a year to fund their retirement.

The 4% annual draw has been the topic of numerous industry and academic studies. I have written quite a few posts on this number. Bottom line, somewhere between 3%-5% is a safe number depending on your assumptions.

In is reasonable to assume $1,297,123 will provide an annual income of $51,884 INDEXED TO INFLATION for the rest of your life. You are safe with or without Social Security. Since our couple paid off their 30 year mortgage they can add $200,000 in home equity to their net worth. Their net worth is pushing $1.5 million even if they have very little in taxable accounts.

I know that many of you will not believe this, but the key takeaway is that an average American family can reasonably expect to be just barely millionaires if they buckle down early, avoid debt like the plague, and consistently live within their means. My generation had some time to get their act together and 15 really good years (1985-2000).

If you are young, you may not have that luxury.

Whatever may or may not happen, the best I can do are those things that God and common sense dictate as wisdom. Ultimately, man is not in control of his own destiny, much less that of the entire world. Our leaders can not be assured that their plans for the economy will work for even a day, let alone a ridiculously short period of time, like a thousand years.

Make your own assumptions. Make lots of different assumptions. Feed the numbers into any one of the many retirement calculators that can be found on the Web. It will not take you long to discover about what it take to fulfill your dreams.

Proverbs 3: 5-6

Trust in the Lord with all thine heart; and lean not unto thine own understanding,
In all thy ways acknowledge him, and he shall direct thy paths.

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