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No one knows precisely how much money they’re going to need in retirement. There are simply too many potential scenarios to factor in. Still, if your goal is a $2 million nest egg at age 65, here’s what it’s going to take to get there.
For the sake of this discussion, we won’t factor in pensions or Social Security payments as they, too, vary tremendously. Instead, we’ll focus on investments.
It’s all about compound interest
If you’ve heard it once, you’ve probably heard it a thousand times: The earlier you begin saving and investing for retirement, the easier it’s going to be to hit your goal.
Compound interest is all about earning interest on interest you’ve already earned. Here’s how it works:
Imagine that you invest $1,000 in an asset that pays an average annual interest rate of 7%.After one year, your balance grows from $1,000 to $1,070, even without adding any more money to your initial investment.Because you leave the investment where it is, after two years it’s worth $1,144.90.After three years, that amount grows to $1,225.04.
Now, there is no guarantee that your investment will earn 7% each year. One year it may be 3% and the next 10%. Still, guaranteed interest works the same way, whether it’s 3% or 10%.
And when you’re thinking of retirement funds, it pays to think long term. Over the past 50 years, the stock market has returned an average of 10%. Now, a few years provided dismal returns and many provided fantastic returns, but it all averages out to 10%.
Investing by the numbers
How much you’ll need to hit the $2 million mark is dependent on two things: How early you begin and how much you invest.
The goal is to build a balanced portfolio, so if one sector takes a hit another can keep your portfolio afloat. Whether you invest in your company’s 401(k), an IRA, or any other investment plan, here’s a close approximation of what it will take to get you to the finish line:
Your specific situation
How much you’ll actually need to save depends on the other sources of income you expect to receive in retirement. This includes a pension, Social Security, annuities, and other guaranteed income.
The rule of thumb is to take no more than 4% from your retirement funds during the first year of retirement. You’ll adjust that percentage each year, based on inflation and how much you want to spend in any given year. For example, if you’re taking a first-class trip to see the Egyptian pyramids one year, you may want to withdraw more money. On the other hand, if you plan to spend a few months visiting grandkids across the country the next year, you may not need as much in your bank account.
And remember, any money you have invested will continue to grow throughout retirement.
If $2 million feels like an impossible goal, think about how you want your retirement to look and how much that’s likely to cost. Then, set a new goal accordingly.
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