Monthly Savings Required To Retire Comfortably MLA

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Monthly Savings Required to Retire Comfortably

At some point in one’s career, making a retirement decision is inevitable. Mainly, the

decision has varied economic implications that persist throughout the life of an individual. After

leaving the paid labor force, a retiree requires at least 70 percent of their preretirement income to

maintain good living standards (EBSA 3). The major sources of income in retirement comprise

pensions, Social Security, and other retirement plans. However, retirement is expensive, and

these sources may not be enough to cater for all the needs of an individual, for instance, building

a house or traveling. Therefore, it is very important to save during the productive years to

guarantee a good life in retirement. Usually, this involves first estimating the amount of money

needed to save for retirement and then prioritizing on regular savings by leveraging the savings

plans that offer tax advantages such as the 401(k) or Individual Retirement Arrangements

(IRAs). In this context, this assessment seeks to establish the monthly savings needed for an

individual to retire comfortably.

Though the concept of lifestyle is subjective, an individual should choose a lifestyle that

they can afford. In this regard, saving for retirement should begin early to ensure adequate funds

for a comfortable life in retirement. A comfortable retirement means more involvement in leisure

and recreational activities for an individual. Additionally, it means good standards of living

attained through the purchase of private health insurance, good clothes, cars, electronics, high-

quality household goods, and regular domestic and international holiday travels.

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Assumptions

In this assessment, we make various assumptions about an individual, including the

employment status, income, retirement age, and interest on savings. We assume that the

individual is a full-time employee who is entitled to a monthly salary of $4,500, excluding taxes

and deductions. The individual will retire at the pension age of 65 years and spend about 20

years in retirement. We also assume that the interest on savings will remain constant from the

first to the final installment. Specifically, we assume a constant rate of inflation attributed to the

rising cost of living.

Variables

The main variables in the model include the total annual income of the individual, which

is subject to various adjustments for tax and deductions. Additionally, the current age of the

individual is an important indicator of the time remaining in active employment. The age at

retirement indicates the duration of savings while the years of retirement indicate the expected

time that an individual will spend in retirement. The interest rate indicates the return on the

investment or monthly savings.

Solution

The total annual income for the individual is $4,500 × 12 = $54,000. Since the income is

taxable, a 25% rate is applied (Pomerleau), which results in an annual after-tax income of

$40,500. Assuming that an individual will need 70% of the annual preretirement income to live

comfortably each year, the amount required each year will be 70% × $40,500 = $28,350.

Assuming that the individual’s current age is 25 years and the intended retirement age is 65

years, there are 40 years left to participate in the labor force. If the individual is funding the

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retirement plan at a return of 5% per annum for 40 years, the monthly installment is calculated as

follows.

Firstly, the present value of the amount required for the 20 years of retirement is:

Where Pmt is the periodical cash flow or the amount paid to the retiree per year, r denotes the

return (interest rate), and n indicates the number of payments (12 × 20 = 240). The monthly

interest rate is 5% ÷ 12 = 0.0042.

The monthly amounts that the individual should save during the 40 years are estimated as

Where Pmt denotes the monthly savings, PV denotes the present value of the total retirement

savings, r is the interest rate, and n is the number of payments. In this case, the number of

payments is 40 × 12 = 480 months.

Therefore, the monthly amount to save to retire comfortably is $2,764.82.

Analysis and Model Assessment

The model makes numerous assumptions regarding the income of the individual. While

tax adjustment based on a 25% rate for a single person is made on the income, there are no

deductions or benefits. Mainly, we assume that the individual is solely reliant on the monthly

salary for income. This may not be the case in reality but is acceptable for the hypothetical case.

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The estimation of the monthly installments is based on annuity calculations, which is empirically

justified.

Results

The model’s results indicate that a 25-year-old individual earning a monthly pre-tax

income of about $4,500 would have to save more than half their earnings to retire comfortably at

65 years. In particular, the individual needs to save about $2,764.82 per month to receive

$28,350 each year during the 20 years of retirement. Notably, the amount excludes pension and

Social Security. For a single person, the amount would be adequate to ensure good living

standards.

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Works Cited

Employee Benefits Security Administration (EBSA), United States Department of Labor. Top 10

Ways To Prepare For Retirement. 2015. Print.

<https://www.dol.gov/sites/default/files/ebsa/about-ebsa/our-activities/resource-

center/publications/top10ways.pdf>.

Pomerleau, Kyle. "2016 Tax Brackets." Tax Foundation. N.p., 2015. Web. 15 Oct. 2016.

<http://taxfoundation.org/article/2016-tax-brackets>.

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Monthly Savings Required to Retire Comfortably MLA

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