Is a $500,000 retirement account or investment account enough to retire?

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Many Americans believe they can retire on less than $500,000 in a retirement account like a Traditional IRA or a 401k. Is this possible for the average retired couple?

Beach - Three generations walking
 

In summary, yes, it is possible depending on many variables such as overall spending and other sources of income, like pensions and social security. Let’s dive in.

To retire on $500,000 comfortably, no more than $20,000 per year should come out of the portfolio using the 4% rule. This rule of thumb says that retirees should only withdraw 4% per year from their retirement funds to have a decent chance that their portfolio lasts throughout their lifetime.

Living on $20,000 per year is not ideal for many retirees with large mortgages and higher standards of living. Even if their mortgage is paid off, they still have high fixed expenses such as property taxes, property insurance, health insurance, and living expenses.

Retirees need to supplement this $20K with social security and other lifelong savings in non-retirement investment accounts.

Let’s look at the typical retired couple.

The typical senior couple (retired worker and spouse) who both claim social security benefits receive about $2,739 per month or $32,868 per year.1

Social security benefits and the $20,000 from the Traditional IRA or 401k is gross, not net. Income taxes must come out first. Note that 40% of social security recipients pay federal tax on their benefit.2 For this “typical” couple though, there are no federal income taxes owed. The over 65 standard deduction covers taxable income and then some. See the rough calculations below.*

So, this “typical” senior couple with a $500k retirement account could afford to spend $52,868 each year ($20,000 + 32,868 less $0 in taxes).

Now, let’s look at the national average spending of a senior household of two.

Using national averages from the Bureau of Labor Statistics, let’s see where we land.3,4

Housing (mortgage payments, insurance, and maintenance):

$16,880

Healthcare (premiums, out of pocket expenses):

$6,583

Transportation (filling up the gas tank, buying a car, oil changes):

$7,062

Food (grocery and dining out):

$6,207

Entertainment (movies, museums, hobbies, pets):

$2,527

Clothing:

$1,417

Miscellaneous other (alcohol, tobacco, personal care products and services, reading, education, life and personal insurance, and miscellaneous expenses):

$5,257

Total Expenses:

$45,933

Total After Tax Income:

$52,868

So, the typical senior couple has $6,935 extra to spend each year or $577 per month. This is not that much wiggle room considering these expenses do not explicitly include vacations or gifts.

All in all, a $500k portfolio is do-able, depending on many variables, but it’s not as much as it seems.

Americans need to max out their 401ks. They need to contribute to Roth IRAs and regular investment accounts to supplement their employee retirement account and social security. This typical senior couple would be able to take advantage of the 0% capital gains tax rate if they had also saved in a regular taxable investment account.

Americans need to dollar cost average into the market over time via their 401k and regular accounts. They need to try to utilize the tax advantaged ways to save and spend via 529s and Health Savings Accounts.

Many Americans believe that contributing up to the match in a 401k is the same as contributing up to the max. This is incorrect. Americans can contribute a maximum of $20,500 per year to an employer retirement plan like a 401k or 403b. If a company matches 100% up to 5%, then contributing up to the match is 5%. If the salary is $100,000, then the employee contribution is $5,000 – way short of the $20,500 maximum.

If an employee contributed $20,500 per year to a 401k and earned an average 7% per year, then the account value would be $900k in 20 years and $2MM in 30 years. (Simple annual payment FV calculation and leaves out ER contributions.) Divide those figures roughly in half if the employee is only contributing up to the match and including employer contributions.

For those nearing retirement, it’s unlikely that social security benefits are ever cut. But if cuts happen for younger Americans, then outside savings and investments is all the more important.

So, how much should the average American plan to have saved for retirement?

The more the better and I encourage folks to be above average. But using the above assumptions, the typical senior couple could retire with about $500,000 saved in a retirement account because that will give them about $577 extra to spend each month. But again, be above average. People should try to save and invest as much as they can, so they have more in retirement and for the unexpected, like long-term care costs.

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1 https://www.usatoday.com/story/money/personalfinance/retirement/2022/06/15/social-security-how-much-does-average-couple-get/50368929/

2 https://www.bankrate.com/retirement/avoid-paying-taxes-on-social-security-income/#:~:text=In%20fact%2C%20only%20about%2040,you're%20married%20filing%20jointly

3https://www.sofi.com/learn/content/typical-retirement-expenses/#:~:text=According%20to%20the%20Bureau%20of,month%2C%20between%202016%20and%202020.

4https://www.bls.gov/opub/btn/volume-5/spending-patterns-of-older-americans.htm

https://www.moneytree.com/resources/calculating-taxable-social-security-benefits/

*Using the IRS Interactive Tax Assistant, we see that only $2,217 of social security benefits are taxable. Add this to the entirely taxable amount of $20,000 from the Traditional IRA and total taxable income is $-6,483 ($22,217 less the standard deduction of $28,700, assuming over age 65). At this level, federal income taxes are around $0. We’ll exclude state taxes in this analysis.