Your budget should include setting aside some money for retirement.

But how much?

To figure out how much money you should set aside each month for retirement, you first need to calculate how large of a nest egg — in total — you ought to build.

In other words: How much money will you need to retire? You’ll need to answer that question before you can reverse-engineer the amount you should set aside in your budget.

Here’s a way that you can calculate how big of a nest egg you’re going to need:

Step 1:

Decide what portion of your current income you want to replace during retirement.

Most experts recommend replacing between 70% to 85% of your pre-retirement income. Multiply your annual income by 70% to 85% to come up with your target retirement income in today’s dollars. If your current income is $100,000 and you decide that you want to replace 80% of it in retirement, your target retirement income (in today’s dollars) is $80,000 per year. (Don’t worry about adjusting for inflation during this step.)

If you and your spouse both earn money outside of the house, make sure that you complete this exercise with your combined joint income.

If you earn $50,000 annually and your spouse earns $75,000 annually, add your income together ($125,000 annually combined) and then multiply by 70 percent to 85 percent.

Step 2:

Adjust the figure from Step 1 to account for 4% inflation. Here’s how:

If you are ten years away from retirement, multiply your target retirement income by an inflation factor of 1.48. If you are 15 years away from retirement, use an inflation factor of 1.8. If you are 20 years away from retirement, multiply by 2.19, and if you’re 25 years away from retirement, multiply by 2.67.

Let’s assume that you’re also 25 years away from retirement.

In this second step, you take that figure — $80,000 per year in today’s dollars — and you multiply it by 2.67. Your answer ($80,000 x 2.67 = $213,600) represents your target retirement income in future dollars, after adjusting for inflation.

In other words: To maintain the lifestyle that an annual income of $80,000 provides today, you’ll need $213,600 per year in 25 years from now.

Step 3:

Log on to the government’s Social Security website to find out what your projected Social Security benefit will be.

Step 4:

Contact your human resources department to find out how much of a pension, if any, you are eligible to receive. Two-thirds of Americans are no longer eligible to collect pensions, but I’m including this step for the benefit of the one-third of Americans who are.

Step 5:

Using the same inflation factors that I outlined in Step 2, adjust those amounts for inflation. For example, if you are eligible to receive $20,000 per year from Social Security in today’s dollars and you are 25 years away from retirement, multiply $20,000 by the inflation factor of 2.67.

The answer, $53,400, is the amount of money that you will collect from Social Security in future dollars, after adjusting for inflation.

Remember:

- If you are 10 years from retirement, multiply by 1.48.
- If you are 15 years from retirement, multiply by 1.8.
- If you are 20 years from retirement, multiply by 2.19.
- If you are 25 years from retirement, multiply by 2.67.

Step 6:

Subtract your inflation-adjusted projected future Social Security and pension benefits from your inflation-adjusted target retirement income. It shows how much money you will need to come up with from your investment portfolio.

For example:

- Inflation-Adjusted Target Retirement Income: $213,600 per year
- Inflation-Adjusted Social Security Benefit: $53,400
- Pension: $0
- Shortfall: $160,200 per year

In other words, you’ll need to create an investment portfolio that can produce $160,200 per year in income.

Step 7:

Multiply this number by 25. That is how large of an investment portfolio you will need to take care of your retirement needs.

For example: If you need to come up with $160,200 per year, you’ll need ($160,200 x 25 = $4,005,000 in your retirement portfolio. In other words, you’ll need a $4 million retirement portfolio.)

Why multiply by 25? Because of a rule of thumb known as “the 4% withdrawal rule,” which states that you can withdraw 4% of your portfolio each year without running a significant risk of dwindling down your reserves.

Step 8:

Calculate how much money you’ll need to save per month to create a $4 million portfolio (or however large of a portfolio you calculate for yourself).

This article will give you a general overview of how much you’ll need to put away every month to build a $1 million nest egg. It assumes you’re starting with $0 saved.

Since you probably have some money in your retirement accounts already, you should only use that article for a big-picture overview. To calculate the precise amount that you personally need to save, use a compounding interest calculator.

A compound interest calculator will measure the returns that your returns generate. For example: In Year 1, you invest $10,000 and earn a 5 percent return. At the end of Year 1, you have a total of $10,500. In Year 2, you invest the full $10,500 — in other words, your gains ($500) are now making their own gains. Over time, this is a very powerful tool for growing your money. Learn more about compound interest here.

When you use the calculator, assume that the markets will return 7 to 8 percent as a long-term annualized average. (Enter 7 percent or 8 percent in the spot that asks for “rate.”)

This calculator will show you how much money you need to set aside every month to build your ideal retirement nest egg.

Step 9:

Create space in your budget to set aside this money for retirement. Use these worksheets to target the areas in your budget in which you can cut back your spending so that you can set aside extra for retirement.

Furthermore, don’t forget that you can also focus on earning extra income, as well. Take on a second job, and save this additional income for your retirement.

Source: thebalance.com ~ By: PAULA PANT ~ Image: pixabay.com