by Art West

Created on: October 09, 2008

"If I only had $1 million I could be retired for the rest of my life." How many times have we heard that said...or even said it ourselves?

The truth is $1 million dollars may not be enough. First we need to find out how much we need annually to live on. Conventional estimates usually say anywhere from 60%-80% of your take home pay based on your last year of full-time employment. You may be able to get by on that, however, most people don't want to just get by when they retire. They want to be able to travel and do things. You should have your house paid for when you retire so you should not have a house payment, however, you will have an increase in your health insurance costs. I figure those should balance out, so in my humble opinion you need to have at least 100% of your take home pay and maybe even more.

Now let's look at the $1 million dollar statement. If you have $1 million dollars invested in some good Growth Mutual Funds, you should be able to average a 10%-12% rate of return. We will be conservative and say 10%. Inflation has averaged a little over 4% since 1900. We once again will be conservative and use 5% for inflation. So we have $1 million dollars in a Mutual Fund that is earning 10%. We want that fund to grow to keep up with inflation. It won't do us any good to withdraw $50,000 every year for 30 years. That may be fine the first year but by the 30th year that $50,000 may be the equivalent of $10,000 when you first start withdrawing it.

The $1 million dollars earning at a 10% rate will make $100,000 the first year. If we continue to take 5% out each year and leave 5% in the Mutual Funds then we should be able to cover for inflation. That means the first year we ill take out $50,000. The new balance in the Mutual Funds will be $1,050,000. That $1,050,000 earning a 10% rate will make $105,000 in the second year. If you take 5% that means your second year income will be $52,500. The balance on the Mutual Fund will then be $1,102,500. As you can see, you will be paying yourself a higher amount each year and also your Mutual Fund will be growing to help compensate for inflation.

Don't forget that you will have to pay taxes on the $50,000 so a conservative figure would be to use 80% of the amount that you withdraw from you Mutual Fund. That would mean that you would net $40,000 the first year.

Now the question is "how much do you need annually to retire?" If you are currently taking home about $40,000 per year, then you will need $1 million dollars. If your take home pay is only $30,000 then you could manage with only $750,000 in your Mutual Fund. I get that figure by taking $750,000 times 5% to get $37,500. I then take $37,500 times 80% and get a net of $30,000.

If you have a Roth IRA or Roth 401k, what you withdraw from those are not taxable. You need to keep that in mind as you calculate your retirement. Also remember that I used conservative figures and did not include Social Security. The way the government runs things, I am not going to count on Social Security, at least not to cover my necessities. I may count on Social Security for stuff like travel and entertainment.

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