How to Calculate Your Retirement Income

Tom Gilmour is a senior director of Planning Experience Integration for Northwestern Mutual.

When you head into retirement, you’ll transition from earning a regular income to drawing on your savings and investments. Your savings are what you’ll eventually be living on, which is why it’s so important to save. But how much should you save? Well, that depends on how much you think you’ll need.

How much money will I need when I retire?

Americans think they’ll need around $1.27 million in retirement, according to the 2023 Northwestern Mutual Planning & Progress study—but what does that actually mean when it comes to your retirement income? While there are some general rules that you can use to ballpark how much income you can create with a certain level of savings (and visa versa), creating lasting income in retirement can be a little more nuanced.

Before you throw a number at a dartboard, it’s important to think through how you plan to spend your time when you’re retired. If traveling the world is on your list, you may need to dial up how much money you will need to retire. But a more modest retirement may not require as much.

Once you have an idea of what you want your retirement lifestyle to look like, there are different rules of thumb you can use to calculate your retirement savings target. For example, you might try one of the following:

The 25x Rule

The 25x rule suggests saving roughly 25 times your current annual spending. If your yearly income need is $70,000, that would put your need for retirement savings target at $1.75 million.

The $1,000-a-Month Rule

With this savings rule, every $1,000 of monthly retirement spending translates to $240,000 you should have saved. So, let’s say you plan on spending $5,000 per month when you retire. Multiplying $240,000 by 5 brings you to $1.2 million you’d need to save for retirement.

The 4 percent rule

The 4 percent rule is another method for determining how much you’ll need in retirement. With the 4 percent rule, you withdraw 4 percent of your total retirement savings in the first year you retire. Every year after that, you should be able to withdraw the same amount (adjusted for inflation) for about the next 30 years.

Ultimately, how much you’ll need to save for retirement will depend on your situation, so the strategy you use to save should be unique to you.

How do I calculate my retirement income?

When calculating retirement income, you’re essentially calculating your income replacement rate. This is the percentage of your current income that you would need to live comfortably in retirement. One general rule is to plan on living on 70 percent to 80 percent of your pre-retirement income. If your annual salary is $100,000 the year you retire, you’d plan to spend $70,000 to $80,000 during your first year of retirement.

And, don’t forget about inflation. The amount you spend will likely increase each year as the cost of living increases. So, rather than planning for 70 to 80 percent of your income today, make sure you’re planning 70 to 80 percent of your income in 20 years.

So it may seem pretty simple at this point. If you want $80,000 a year in retirement, you should have $2 million saved, right? Well, not exactly. For starters, you’ll want to factor in Social Security, which will provide some of that income. Then, with the rest of your savings, using different financial options strategically can help you get more out of your savings by helping to navigate common risks like market volatility, taxes and longevity. Some common financial tools used to generate retirement income include:

• Social Security

• 401(k)s, IRAs and other investment accounts

• Health savings accounts (HSAs)

• Pensions

• Annuities

• Permanent life insurance

These financial tools have different attributes, which can allow you to withdraw from them strategically to help shield you from common risks to your retirement income.

Risks to retirement income

Life doesn’t always go the way we plan, and though you may have a solid plan for retirement, things can change. When calculating a good monthly retirement income, it’s important to be prepared to navigate certain risks to your retirement savings.

Longevity

The ultimate goal is to live a long and happy life. If you retire at age 65, you’ll want to plan for several decades’ worth of expenses. If you’re fortunate to have good health, you may live long enough that you start to outlive your savings. Social Security and an annuity can help you prepare for this possibility. That’s because both offer income that’s designed to last for the rest of your life—no matter how long you live.

Market volatility

With market-based investments, including a 401(k) or IRA, your balance can bounce up and down with regular market activity. This may not necessarily be a bad thing. Staying invested in retirement can help you keep pace with inflation—but short-term losses are always possible. That’s why it’s important to have a plan to generate income without touching your investments during a down period for the markets.

Taxes and inflation

Different financial tools are treated differently from a tax perspective. If you’ve planned strategically, you can use this to your advantage—helping to minimize the impact of taxes over time. Additionally, no one knows what lawmakers will do in the future. Just like inflation, higher taxes could eat into the value of your savings over time. That’s why it’s important to have some assets that are shielded from taxation

Health care

Even with Medicare, out-of-pocket health care costs—including premiums and deductibles—can add up fast in retirement. It can be hard to predict these needs, so it can be a good idea to manage the impact through extra savings or supplemental insurance.

Long-term care

If you develop a prolonged illness and require special care, you could deplete your retirement savings more quickly than you intended. Preparing for the cost of long-term care or purchasing long-term care coverage are two ways to offset this risk.

Your legacy

If you want to leave something behind for your loved ones or favorite charity, you should consider it as part of your retirement income plan. Without a deliberate plan, you may actually spend less than you otherwise could for fear of spending down assets too quickly.

Calculating your retirement income

This may all seem a bit overwhelming. But the good news is that you don’t have to do it alone. A financial plan that has retirement on the horizon can help ensure you achieve all you want financially before and after retirement. A Northwestern Mutual financial advisor can help you create a personalized plan that prioritizes your unique goals and values and uses the right customized mix of assets to help you reach your goals.

The primary purpose of permanent life insurance is to provide a death benefit. Using permanent life insurance accumulated value to supplement retirement income will reduce the death benefit and may affect other aspects of the policy.

Certified Financial Planner Board of Standards Center for Financial Planning, Inc. owns and licenses the certification marks CFP^®, CERTIFIED FINANCIAL PLANNER^®, and CFP^® (with plaque design) in the United States to Certified Financial Planner Board of Standards, Inc., which authorizes individuals who successfully complete the organization’s initial and ongoing certification requirements to use the certification marks.