Do you need $1 million for a comfy retirement?

by Diana Cawfield, Bankrate.com
Wednesday, May 19, 2010

When it comes to retirement, there is no shortage of opinions on the need for a hefty $1 million to carry you through your golden years. The demographic trend of living longer and more actively also means extending our financial lives, so suggestions of needing plumper nest eggs are common. Outliving our money is a big concern for many.

While a six-digit portfolio may be the target to meet the lifestyle choices of some people, there are more modest and more achievable financial targets for many others. If you are in the lifestyle camp that requires close to $1 million to retire, and you're comfortable with that, both financially and personally, this article is not for you.

But if you are among the many other investors who will retire with far less than a million dollars, read on to find out how to make your funds last a lifetime.

Retirement less expensive than you think
According to Malcolm Hamilton, a consulting actuary with Mercer, in Toronto, we don't read about the comfortable retiree a lot because it doesn't fit the stereotype. "The stereotype," he says, "is the extravagant lady spending, the impoverished senior or the poor boomer in the sandwich generation having to help the poor senior."

Yet, people who are frugal - not miserly, notes Hamilton - and don't like wasting money often find that they don't spend anywhere near as much as they have saved.

It's all based on what you're used to. According to Hamilton, many people don't increase their spending once they retire because they're already doing what they like and it doesn't cost them very much. "It becomes obvious when they're 10 to 15 years into retirement that they're just getting richer and richer, not poorer and poorer," he says.

Hamilton points out that retirement offers a host of enjoyable, low-cost activities that include local community centres, subsidized courses and discounts on clubs and recreation. Then there's a wide choice of free or affordable activities like walks in the park, playing cards with friends, or reading and watching television for armchair adventures.

The rule of $20
Other positive factors bode well for retiring with more modest means. "Canadians tend to be very conservative about their approach to finances anyway, and our banking system has certainly helped that and it's given retirees right now a greater piece of mind," says Patricia Lovett-Reid, senior vice-president at TD Waterhouse Canada.

In fact, according to her research, close to 70 per cent of Canadian retirees already say their retirement is exactly, or mostly, what they expected. "It's the preretirees who worry about their retirement, because they're not sure how much they're going to need. So when they hear that you need a million dollars, it's overwhelming."

Lovett-Reid credits Russell Investments Canada for the helpful retirement Rule of $20. Essentially, for every dollar of annual income that you expect to need during your retirement, you need to have saved $20 by the time you retire, without inflation indexing.

For example, a couple heading into retirement with $400,000 of registered savings can expect it to generate $20,000 a year in retirement income. "Now, you combine that with an estimated $25,000 of Canada Pension Plan, or CPP, and Old Age Security, or OAS, and this couple is looking at a yearly retirement income of approximately $45,000," says Lovett-Reid.

For illustrative purposes, Lovett-Reid says research from Statistics Canada indicates that the median household income for a married couple is $63,000 gross. Therefore, if you want to maintain, say, 70 per cent of that income, then a couple at age 65 would need just shy of $45,000 a year in retirement, pretax.

For individuals who fall short of a $400,000 portfolio - especially those with no company pension - you're going to require $20,000 of income from your own savings a year to maintain close to that $45,000 in annual income.

"So you're going to have to look at the co-mingling of all your income sources - registered retirement savings, tax-free savings accounts and nonregistered accounts," says Lovett-Reid.

Three job descriptions in retirement
According to Keith Pangretitsch, director of national sales at Russell Investments Canada, to simplify the process of calculating income needs, "we always say every dollar a client has should have a job description."

To that end, he earmarks three main job descriptions for retirement funds. The first is to cover essentials such as food, shelter, transportation expenses, taxes and any other expenses beyond your control.

The second job description, lifestyle, offers flexibility because it is a discretionary expense. You can choose how to use your money when it comes to entertainment, travel, clothing and eating out, along with many other lifestyle choices.

That's not to say that controlling discretionary expenses is an easy task. "I'll put out an economics terms from my university days: We're all utility-maximizing individuals. We all want to do more than less," says Pangretitsch. So, you need to choose investments that will produce the amount of money you need.

While individuals vary greatly in risk tolerance and financial circumstances, a portfolio that offers a balance between risk and return is often necessary to generate growth of capital in retirement. "What we recommend is 60 per cent equity and 40 per cent fixed income to give you the growth that you need and to reduce the risk from equities," says Pangretitsch.

The third job description is planning. "Most people, quite frankly, start planning too late," says Pangretitsch. "I think the regulatory environment is good for folks to retire well, but we also need that added piece of financial planning to ensure that we're on track. Retirement is far too complicated, with tax issues and reduced income issues, not to take it seriously."