How to Calculate When You Can Retire

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Updated on Thursday, February 14, 2019

Estimating the year in which you retire can be a deceptively tough decision to make, even when using various age benchmarks. For instance, even though the average American retires at age 63, you might need to retire at a later age to reach your retirement savings goal.

And although it seems like the “typical” retirement age is 65, that’s considered early retirement by the Social Security Administration for anyone reaching that milestone birthday in 2019 or beyond. This means that to retire at age 65, you will have to either accept a reduction in your Social Security benefits or live on just your retirement savings until you reach your Social Security retirement age (66 or 67, depending on your year of birth).

Since age is not necessarily a reliable benchmark on which to base your retirement date, you should find other ways to calculate the right retirement age. Specifically, understanding how your finances will work into your retirement timeline can make the difference between a secure and fulfilling retirement and kicking yourself for calling it quits too early.

Here’s what you need to know about how your money can help you determine when to retire.

How much money will you need?

Determining how much you’ll need for a financially stable retirement depends on multiple some factors that vary from individual to individual. But there are a few standard rules that can help you quickly help you estimate when you can retire.

The 4% withdrawal rule

This rule originated with the 1994 study by William Bengen entitled “Determining Withdrawal Rates Using Historical Data.” Bengen used the historical market rates and fluctuations to determine that a retiree can safely withdraw 4% of her assets in the first year of retirement and increase the withdrawal a little bit each year to cover inflation. Following this kind of systematic withdrawal, the retiree’s savings could last for 30 years or more.

The 4% withdrawal rule is not the end-all-be-all for retirement income, however, because a market downturn early in your retirement can force you into an impossible decision: either take your normal withdrawal amount even though it depletes your nest egg more than originally planned, or live on less money while you wait for the market to recover.

The 4% rule is simple: Calculate 4% of your nest egg and decide if it’s enough for you to live on. For instance, if you have $1 million saved for retirement, you would withdraw $40,000 each year for living expenses.

75% of income rule

Another helpful principle is the 75% of income rule. With this guideline, you will aim to spend just 75% to 85% of your current annual income in retirement, since that will likely cover your living expenses after you stop working. That’s because retirees often see their expenses go down in retirement, as they are no longer paying payroll taxes, work expenses or saving for retirement.

However, if you plan to travel extensively during retirement, enjoy expensive hobbies, provide significant gifts to family, or if you suspect you may have serious health issues, then this rule of thumb may not be sufficient for your retirement needs.

You can use both rules to help you determine your retirement readiness. Simply calculate 75% of your current income and compare that amount to 4% of your nest egg. For instance, let’s say you earn $70,000 per year and you have $1 million saved for retirement. 75% of your current income is $52,500, and 4% of your $1 million nest egg is $40,000.

A gap in your numbers might mean you are not ready to retire, but remember that you are not yet done calculating your income sources.

Other income sources in retirement

The above calculations can provide a good sense of how well-prepared you are for retirement, but don’t feel discouraged if your calculations don’t line-up. There are other income sources to include in your retirement plans, which can be broken up into three categories: income from growth (such as dividends), income from interest and lifetime income.

Social Security and pensions would be considered a lifetime income stream. Average retirees can expect their Social Security benefits to replace about 40% of their pre-retirement income, according to the Social Security Administration. (The higher your income, the lower that percentage will be.) You can view your projected Social Security benefit amount by logging in to your Social Security account. Remember that the longer you wait to take your Social Security benefits, the higher they will be (up to age 70).

CDs, bonds and cash would be examples of interest-dependent income streams, and dividend-producing stocks and mutual funds could provide growth income. Other income streams to consider would be inheritance, royalties and savings — all of which can be included in your retirement income calculations.

Take advantage of compound interest

The power of compound interest can also help you reach your retirement goals, especially if you start saving early.

For instance, 25-year-old Beau and 45-year-old Mitch both start saving at the same time, hoping for retirement at age 65. Beau sets aside $200 per month and Mitch puts away $400 per month. Both men earn 8% interest, which is compounded annually.

Over 40 years of savings, Beau will put away a total of $96,000, but the power of compounding interest will make his account grow to be worth nearly $622,000. Mitch’s 20 years of savings will also result in $96,000 being put away, but the account will only grow to about $220,000 because there was only 20 years of growth rather than 40.

But even if your 20s (or even your 50s) are behind you, don’t assume that you can no longer take advantage of compound interest. While you are still working, you can set aside money in investment vehicles that you don’t plan to touch until you have been retired for at least a decade or more. Even after you have retired, you can still take advantage of compounding interest by keeping a portion of your retirement assets in long-term investments that you do not plan to access for 15 to 20 years. In that way, you can still get the benefits of compound interest without inventing a time machine.

When can I retire?

Determining the best time to retire will depend on your unique financial situation. But you can do some quick calculations to help you understand how much you’ll need and how you’re pacing along toward retirement.