Does saving 50% really work? Would saving 50% of your income enable anyone to retire early? How long would it take? First of all, saving 50% of your income is a tall order. Most people need to spend a significant amount of money to live a comfortable lifestyle. That comfortable lifestyle cost way more than 50% of income for the average household. Also, your expenditure tends to rise with your income. If you make a lot more income than the average household, your expense is usually much higher too. Most people just can’t bring themselves to save 50% of their income even if they make a lot of money.
Second, I heard that it’d take about 17 years to retire early if you save 50% of your income. Mr. Money Mustache made a spreadsheet a long time back. However, that was based on an unrealistic early retirement calculator from Networthify. The annual income and expenditure were constant. That doesn’t work because of CPI inflation (price) and lifestyle inflation. It’s impossible to keep expenditure the same for 10 years, let alone 70 years. We’ll add a few more variables and do the math today. Then, we will how long it would really take to retire early if you save 50%.
The Average US Household
The Bureau of Labor Statistics hasn’t released the 2018 consumer expenditures yet so we’ll go with the 2017 numbers.
In 2017, the average household made $73,573 before taxes. And they spent $60,060. The rest went to taxes and savings.
The average federal tax rate for that income range is about 9%. We’ll estimate the local taxes and savings.
- Income: $73,573 (from BLS)
- Expenditure: $60,060 (from BLS)
- Federal taxes: $6,622 (9%)
- Savings: $4,414 (6% from Trading Economics)
- State and local taxes: $2,477 (~3% estimated)
As we can see, the average US household isn’t saving enough. That is understandable, though. Last year, we spent $60,835 and we live pretty modestly. There were a few lumpy expenses like replacing the HVAC and a couple of long trips. However, that’s not unusual. There are always a few big expenses every year. The biggest problem was our housing cost. We spent $28,420 on housing last year. That’s 47% of our annual expenditure. This year will be better, though. We moved into our duplex and our housing cost should decrease significantly in 2019. Fortunately, our income was excellent and we were able to save more than 50% last year. Most households can’t do that.
The problem for the average US household is 2 fold. They don’t make enough income and they spend too much. They’ll need to increase their income and save much more to reach the 50% threshold. I’ll have to write another post to cover that topic. Today, we’ll focus on the math and figure out how long it’d take to retire if you can save 50%.
Here we go – I made a Save 50% spreadsheet on Google Sheets. You can check it out and copy it to mess around with the variables. To make a copy, just click “File > Make a copy.” This will make a copy in your own window and you can change the numbers there.
- Earned income: $75,000. This one isn’t that important because we are looking at the percentage.
- Initial Saving Rate: 50%. This is the saving rate you start off with. We’ll assume the family somehow managed to save 50%.
- Annual Raise: 5%. To be more realistic, we’ll add an annual raise.
- Spending Increase: 5%. We’ll assume the expenditure increases too. For now, we’ll keep it even with annual raise. This will keep the saving rate at 50% throughout. This number is extremely important. Update – I split this into spending increase (3%) and inflation (2%.)
- ROI: 7%. We’ll assume a conservative 7% annual gain for our investment.
- Post Retirement Income: 0%. For now, we’ll assume there is no earned income after retirement.
- Initial Savings: $200. This is what you start out with.
- Target Withdrawal Rate: 4%. We’ll use the 4% withdrawal rate.
Here are the numbers for saving 50%.
With our assumption, it will take 20 years to achieve our target. After 20 years, our portfolio will be able to support a 4% withdrawal rate. That’s not too bad.
However, there is a big problem down the road. Once this family retires, their income will drop to zero. The annual expenditure increase is still set at 5%. That’s not unreasonable, but it adds up over the years. After 33 years of retirement, they’ll run out of money.
The 5% spending increase isn’t sustainable. Their expenditure will outpace their passive income. The retirement savings will be depleted after 33 years.
One way to solve this problem is to limit the spending increase. Even decreasing it from 5% to 4% will help tremendously. That 1% makes a big difference over the long haul. However, this would mean increasing the saving rate gradually. The saving rate starts out at 50% and increases to nearly 60% after 20 years.
Anyway, it looks like we need about a 3% spread between spending increase and ROI for the retirement portfolio to last 50 years. This is a simple spreadsheet, but the lesson is clear. We need to avoid spending more than the portfolio can support. To be safe, the ROI needs to be about 3% higher than the annual spending increase.
There are other ways to improve the numbers too.
- Work a bit after retirement to bring in some income. I added a post-retirement income variable to the spreadsheet. Adding 10-20% of the pre-retirement income back can help a lot. A little active income goes a long way in early retirement.
- Interestingly, dropping both the annual raise and spending increase to 4% worked too. This kept the saving rate constant at 50%. Having the 3% spread between spending increase and ROI really helps.
- Lowering the spending increase after retirement should help a lot too. However, I don’t think people can change after 20 years. If you want to limit the spending inflation, you’ll need to start while you’re working.
Early retirement is possible
Anyway, saving 50% will enable you to retire earlier. We just need to keep a close eye on the retirement portfolio and make sure not to withdraw too much.
Check out my Google spreadsheet and play around with the variable. Retirement is possible in less than 20 years. We just have to make sure to limit the spending inflation so we don’t run out of money too early.
Well, what do you think? Do you like my spreadsheet? Let me know if I need to add any more variables.
As for how to save 50%, that’s another long topic. I’ll have to write a follow-up post on how to save 50%+. Basically, you have to make more and spend less. Easy to say, but difficult to do.
Lastly, if you haven’t tried it yet, check out Personal Capital’s Retirement Planner. It is one of the best retirement planners online. You can add events like retirement, Social Security benefit starting, kid’s college, and more. They’ll look at your current investment portfolio and see if your retirement will be successful. It is very neat. Better yet, this is a free service. They’ll only charge a fee if you want them to manage your portfolio. You can use Personal Capital to track your cash flow too. It’s a great site for DIY investors.
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Joe left his engineering career behind to become a stay-at-home dad/blogger at 38. Today, he blogs about financial independence, early retirement, investing, and living a frugal lifestyle. See how he generates Passive Income here.
Joe highly recommends Personal Capital for DIY investors. He logs on to Personal Capital almost daily to check his cash flow and net worth. They have many useful tools that will help DIY investors analyze their portfolio and plan for retirement.
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