Retire Based on a Dollar Amount, Not an Age

Investors often save for their golden years with a retirement age in mind as their goal -- 65 or maybe 68 if they really like their job. This age goal was appropriate when would-be retirees had to wait until they were eligible for a pension.

Now that Americans are increasingly responsible for financing their own retirement, waiting until an arbitrary age to retire is an outdated notion. If it's up to us to save for retirement, then it is equally in our power to decide when we can begin living off those retirement savings.

Consider the analogy of buying a house, says James Sullivan, vice president and financial advisor at Essex Financial in Essex, Connecticut. You wouldn't say, "I'm going to buy a house at age 35 no matter what." You would buy a house when you can afford the one you want. Retirement should be viewed the same way. If you can afford to live off your savings starting at age 55, why wait until 65 to retire?

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Your retirement goal has nothing to do with the number of candles on your birthday cake. The only number you should be fixated on is the dollar amount you need to have saved to support yourself in retirement.

Start with your anticipated expenses. The age that you retire has to do with your specific goals, says Scott Thoma, principal and retirement strategist at Edward Jones in St Louis. What does retirement look like to you? And what will it cost to sustain it? The "answers to these questions can help determine what your income needs will be, and this can then be used to determine how much you may need to retire."

A good place to start is by defining your fixed versus discretionary expenses in retirement, says Dana Vosburgh, director of Family Wealth Management at Manning & Napier, an investment manager in Rochester, New York. Nailing down your fixed costs, such as housing, utilities and other living expenses, can be easier than trying to forecast discretionary costs, such as travel or entertainment. It will also give you a better understanding of what you can control financially in retirement.

Health care costs are among the hardest to control and forecast. In fact, health care may well be the largest retirement expense you have. "If you're planning to retire before age 65, you would need to ensure you have a strategy to provide for your, and potentially your spouse's, health care needs until you become eligible for Medicare," Thoma says.

It can be scary to realize that because you aren't working any more, you'll have no way to replace your savings in retirement except through what the market provides, Vosburgh says. But if you understand how much of your spending is discretionary, you'll know where you can cut back if the market has a bad year.

Sullivan tells his clients not to get too caught up in the details at this stage of the planning process. Rather than trying to pin down whether your annual expenses will be $65,000 or $70,000, aim for a ballpark figure. If you have a good idea of what your monthly expenses will be, then you can back into the larger number of how much your portfolio needs to be worth to support your life style.

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Next, determine the projected rate of return you will need. Once you know your anticipated expenses, you can run projections based on your assumed spending and average rate of return in retirement. There are a number of free online retirement calculators that will help you do this, including those at AARP and brokerages like Schwab and Fidelity. The best ones allow for a high degree of customization, Sullivan says. While having to input a lot of data into the calculator "might be slightly inconvenient upfront, it's going to have a huge impact on how accurate the output is."

For better accuracy, choose the right historical data to model your portfolio against, Vosburgh says. You should use the historic rates of return for portfolios that replicate how you expect to manage your money in retirement. If you plan to have a balanced portfolio of 50 percent stocks and 50 percent bonds, for example, then don't use the historical returns of an aggressive growth portfolio, which has a higher percentage allocated toward stocks, to build your models.

Besides the rate of return your investments earn, also consider the sequence of returns, says Jeff Burke, senior vice president at UBS in San Francisco. "The first few years have a bigger impact on your long-term cash flow," so a bad return early in retirement can greatly handicap your portfolio later on. Part of your modeling should be looking at the impact of "bad timing right out of the gate," as well as other potentially worst-case scenarios such as a recession or illness.

You'll also need to consider when you will begin taking Social Security. "Social Security can be a key part of a retirement strategy as it's not affected by the markets," he says, so maximizing this benefit by delaying benefits until you reach full retirement age can have a significant impact on your retirement income.

Calculate when your money will run out. What you're looking for with these forecasts is how long your projected savings can sustain your retirement expenses. Rather than setting a life expectancy, which some models ask for, see when you would run out of money instead, Sullivan says. If your savings can last you until 120 years of age, you're in good shape.

If the projections show you'll run out of money at 68, you need to rethink your plan. "Just pushing out retirement a couple years can make a big difference on how much you need to save," says, Stuart Robertson, president of Capital One Advisors in Seattle. For example, if you want to fund 25 years of retirement starting "at 65, you would likely need to save 12 times your income, but this level declines to 10 times at 67 and eight times by 70," he says.

Plan early and often. Although your projections may show some ages are too early to retire, it's never too early to start modeling for retirement, Burke says. "The worst thing you can do is start too late." You can always revise your model as you near retirement, but there's nothing you can do about not having saved enough when you reach retirement except not retire.

[See: 7 Things That Can Derail Your Retirement Investing.]

Taking the time early on to "put a little bit more thought into [retirement] is going to have a big impact on your life," Sullivan says. After all, when you retire matters far less than how you live in retirement.

Coryanne Hicks contributes to the investing section of US News. She is also the ghostwriter of numerous personal finance articles and self-help books as well as a personal memoir. Formerly a licensed financial professional, Coryanne is passionate about empowering readers to reach their goals through improved financial literacy. You can contact her through her website or email her at coryanneh@gmail.com.