A million dollars was a lot of money when I was a kid. Inflation notwithstanding, for most of us, it still is! It’s an amount the vast majority of people will never have in their bank accounts or anywhere else in their possession. But will a million dollars be enough to retire on?
It’s practically a MINIMUM if you plan on enjoying the textbook full retirement.
Think about all of the retirement scenarios laid out for us in the financial universe; at the heart of nearly every one of them is a big, fat 401k with a seven figure balance to keep us pampered and well provided for in our golden years.
A picture perfect scenario
A million dollar retirement nest egg is as easy to build up as 1, 2, 3—isn’t it?
Let’s run some numbers. Let’s say you participate in your company’s 401k plan, and your income is sufficient to max out your contributions at the current allowance of $17,500. You’re 40 years old, and you’ll be making that contribution in each of the next 25 years. We’ll assume the historic long term stock market average rate of return of 8% per year and that whatever stocks or mutual funds you invest your money in will never under perform that average.
Since this is a perfect world projection, we’re going to ignore the possibility that you could lose your job at some point over the next quarter century, interrupting your contributions for an indeterminate period of time. As well, we’ll assume that another extended zero return (or worse) period, such as the 2000-2010 decade, the 1930s and the 1970s, were complete aberrations and therefore entirely unlikely to re-occur in our lifetimes.
$17,500 contributed each year, for 25 years at 8% will produce a balance of approximately $1.2 million at age 65.
You’ll be a millionaire! That was easy, wasn’t it?
Will a million dollars be enough to retire on – and what will it buy you?
From where we sit today, $1.2 million is a big chunk of change. Can you imagine not being able to retire on that much money???
Well, it’s actually quite possible.
We all know that prices rise over time. For reasons too complex to cover here, inflation is built into our economic and financial systems. We can bet on it continuing in the future for all of the same reasons it has in the past—what ever those reasons may be.
Let’s look at what inflation can do to $1.2 million dollars over the next 25 years. Since there’s no way to project future inflation with any degree of certainty, let’s use recent history as a metric. What has inflation done to the value of money over the past 25 years?
Based on the consumer price index, it would take $190.56 in 2014 to buy what $100 would have bought in 1989. Translation: a dollar today is worth only about 52 cents compared to the 1989 dollar, or slightly more than half.
Just basing inflation over the next 25 years on the past 25, it’s reasonable to conclude that our $1.2 million will be worth only about half in real terms what it is today, or about $600,000. 50% of our portfolio is vaporized by a factor which is totally beyond our control!
We’re not even going to consider the fact that inflation won’t disappear from the scene once we turn 65 and how THAT impacts the projection!
Weak rates of return on low risk investments
Once we reach 65 will we continue to invest in the stock market, gathering our 8% returns annually? The answer to that will be different for each of us. But I’m willing to bet that by the time most of us hit that age, we’ll be more conservative if only because we’ll no longer have the time horizon to recover from large, sudden losses.
Let’s assume that you’ll invest 100% of your money in super safe 10 year US Treasury notes, currently paying 2.62%. 2.62% of $600,000 is $15,720 (remember, we’re adjusting the $1.2 million down for the ravages of 25 years of inflation). That’s $1,310 per month in today’s dollars.
Can you enjoy the prosperous, golden retirement of your dreams on $1,300 per month?
It’s kind of humbling isn’t it? $1.2 million dollars—a very impressive pile of money from where we sit today—reduced to a benefit of just $1,300 per month? It almost doesn’t seem worth it. That’s a lot of doing without during your working years to provide a relatively modest benefit at the end.
But let’s touch on something even more basic. While we can “see” the possibility of accumulating a seven figure retirement balance through regular contributions combined with the magic of compounding over an extended period of time, the fact is – barring a runaway inflation – relatively few of us will ever amass such a fortune!
Are you planning for, or even considering, this possibility?
John Lennon once said, “Life is what’s happening while we’re making other plans.” I was never a big fan of his, but this point is painfully brilliant.
Am I suggesting abandoning the accumulation of money for retirement? No. But what I am proposing is diversification of retirement planning, in much the same way we might diversify a retirement portfolio. Sustenance from several clearly defined sources. Only by developing them do we begin to truly provide for our retirement years.
And now the Million Dollar Question: what career will you have in retirement?
If you’re interested in developing additional income streams, either for retirement or to help prepare for it and fund it, check out my post on freelance blog writing. It’s the kind of work and business you can easily run well past retirement age.
Can you think of any strategies to help prepare for retirement apart from retirement savings alone?