What is the largest purchase you will ever make? I have heard many people say it is your home, but I disagree. Your retirement is the most expensive thing you will ever ‘buy’. Lets compare with some easy numbers. These are rough rules of thumb, and we will use round numbers so you can adjust to whatever fits your income/lifestyle.
Consider a household with $100,000 annual income. Using one commonly used ‘rule’, you would purchase a home that is 3 times your income and buy a $300,000 house.
$100,000 x 3 = $300,000 house
Now lets calculate your price to retire. You have seen the commercials with “your number” floating above someone’s head. I think there are a lot more moving parts than one number, so while I don’t advocate focusing on “your number”, it will serve a function for this discussion. You will need a sizable savings to replace a $100,000 income in retirement. General rule of thumb is that you can sustain a 4% annual withdraw from your retirement fund. That number is debated given the current low interest rate environment, but we will use it here to stay simple. To draw $100,000 from your retirement every year, you need $2.5 million in retirement savings.
$2,500,000 retirement savings x 4% = $100,000 annual expenses
Of course there are a ton of variables…you may not spend as much in retirement (everyone claims this, I will tell you most people do spend just as much), inflation, taxes, market returns, age you retire, life expectancy, healthcare costs, equity in your home, travel, etc. This is why I don’t usually focus on one number but rather a ‘range of possibilities’. But you get the idea, your retirement will cost MUCH more than your home.
Now think about how much time you spend on a home purchase. You ask around to all your friends for a referral to a reputable, honest real estate agent. You spend hours on the internet looking at listings and pictures and even more hours driving around touring homes. Researching price comparisons, inspections, neighborhoods, school districts…all of this takes a considerable amount of time. In your busy life, you make the time needed to make the right home purchase decision because it is a large purchase and it will affect your every-day life.
Next consider how much time you spend on that $2.5 million retirement purchase. How did you choose your advisor? Did you ask around for referrals and do some research to make sure he has a good reputation and does not have any complaints? Did you do a price comparison? Do you know how your advisor gets paid and how much you are paying? If your answers are no, you are not alone, far too many people don’t ask these questions when they hire an advisor. But these are important questions that should be asked and answered. Most people are comfortable asking their real estate agent how much commission they make on a home sale, but never ask their broker how much commission they make on the sale of an investment product.
Now compare how much you know about the house to your knowledge of your retirement savings. You can probably quote all the specs on the house: price, number of rooms, square footage, lot size, year it was built, ceiling height, remodels, flooring, HOA costs, school district, property tax, etc. While I don’t expect you to become an investment professional, you should know the basics of your retirement portfolio. What is your asset allocation, what do you own, how much do the investments cost? Do you own stocks, bonds, mutual funds, ETFs, options, limited partnerships, and/or something else? Do you know what those really are, how they work, how much risk they have, how much return to expect? How much should you be saving to reach your retirement goals, and are you on track?
My point is that your retirement savings is extremely important, and it will impact your daily life as much as (probably more than) your home. You should ask questions and spend the time to be sure you have the right advisor, you are not overpaying, and your investments are right for you. You worked hard for this money, now let it work for you and don’t let it be wasted through high fees, risky investments, and/or sub-par returns. Our resources page has links with information to help you choose an advisor and gain basic financial literacy. But the best advice is to ask questions. If you don’t get answers, make a change until you do get the answers you deserve.
- Sara L. Seely, CFA