Why I Hate Math - Amount Required to Retire

Len Lanetti

Len Lanetti

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Lenny
UK Researcher Develops Retirement Nest Egg FormulaJune 8, 2005 (PLANSPONSOR.com) – Workers trying to figure out how much they will need to save for a happy retirement can find the answer by using the formula CI x {55 - (A/3) - (RA/7)}, according to new UK research.A news report in The Guardian said CI stands for current income, A for current age and RA the retirement age in the formula by Edmund Cannon, a senior lecturer at the University of Bristol, for financial services company JPMorgan Invest.



"It is not absolutely accurate but it will give you a rough idea," Jonathan Watts-Lay, director of JPMorgan Invest, told The Guardian. "It's a calculation you can do on the train because you only need three pieces of information and they are all things you know."



According to the formula, a 40-year-old employee on a salary of $50,000 and looking to retire at 65 would need savings of $1,619,000 to continue to live the kind of lifestyle he had while working. Likewise, a 35-year-old worker earning $60,000 and looking to retire at 65 would need a pension fund also worth over two million ($2,042,400) to enjoy retirement.



Watts-Lay said he expected people to be shocked by how much they would need to fund a comfortable retirement, and that there was "an element of being cruel to be kind" in providing a dose of financial realism. "No-one wants to go into retirement and have to give up their satellite television or going on holiday," he told the newspaper.



A survey for the company found that 66% of people would be unwilling to give up buying clothes in retirement and 72% would be unhappy if they had to give up digital television. However, 60% said they expected to be worse off in old age.



Fred Schneyer
 
Interesting but it's based on maintaining your current lifestyle. I'm planning on REDUCING my lifestyle. Less travel but longer trips when gone. All my big purchases will be done, including tooling for the shop (which I'm buying for the long haul so it doesn't bust in 10 years). Heck, if I could keep my 2000 Ford F250 Diesel by the time I retire (20 years, give or take), I'd do it. Too many miles already, though.
 
Lenny:

While these exercises are useful as far as giving insight--there are a lot of assumptions which are incorporated. Many can change dramatically. Interest rates, appreciation, inflation, etc. If one has their investments in things that appreciate more than assumed, less will be required later. If one earns higher interest on investments, less will be needed.

Don't get too down. Find some ways to invest smarter--land in front of development has been great. Well located rental properties. If interest rates start to drop again, financial assets are the place to be. High inflation, helps real assets. Of course, one can do very well developing their own business and later selling it.

Most of these studies assume that money is put in CDs or earns average stock market returns.

Best,

Dave
 
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Dave,

As a fellow real estate person, what do you feel about the current concern of Alan Greenspan that there is "froth" in the real estate market and that there is over speculation and concern of a R.E. bubble?

The Fed helped bring us the stock market bubble my progressively raising interest rates. Although there was plenty of blame on investors running up stocks that had negative earnings. As real estate is more closely tied to long term interest rates, do you think the Fed will have any effect as they deal only with the short term rates. I have my own views on this, but would like to hear yours and others.
 
Anthony,

I think there is a bubble in some places. The DC area is one... others are less so (think midwest).

Greenspan has mentioned his concern about the inverted yeild curve. I think that merits concern. The proliferation of zero-down, interest-only, and 40+ year amortization schedules have driven a land rush.

At some point, things will change in the uber-hot markets. Some will last longer - Las Vegas probably has more life in it than some others. I think energy will drive some of this, too, as will an aging population that needs to cash-out.

I don't think we'll see a crash, but in the long term I don't think the return rates on real estate are sustainable. There may be a correction along the way. However, if you're in it for the long-term, or you're invested in a cash-flow-generating property in an appropriate neighborhood (college campus, for example), I think you'll do OK.

My 0.02.
 
Anthony said:
Dave,

As a fellow real estate person, what do you feel about the current concern of Alan Greenspan that there is "froth" in the real estate market and that there is over speculation and concern of a R.E. bubble?

The Fed helped bring us the stock market bubble my progressively raising interest rates. Although there was plenty of blame on investors running up stocks that had negative earnings. As real estate is more closely tied to long term interest rates, do you think the Fed will have any effect as they deal only with the short term rates. I have my own views on this, but would like to hear yours and others.
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They had a story on 20/20 by Bob Krulwich about how 68% of new mortgages, especially in California, are interest only. No problem - unless real estate values drop.

Why would values ever drop? Guess what happens when a lot of people want out at the same time.

Imagine the poor sap who gets a $100,000+ bill from the bank when he moves. That's when I'll be buying.
 
I'm pretty sure that we have a bubble here in Central NJ. The value of my house jumped over $100,000 in a year. I think it's starting to recede, though.
 
Anthony:

Bill gave some great answers. Real estate is very location dependent. Some markets have seen tremendous run ups; others, have been pretty flat. Real estate also covers many types of property. If you are focusing on single family homes, that is not the best investment choice. A home is much more than an investment if you plan to live in it; yet, can appreciate greatly.

What I try to find here in the Dallas area is an area where land is clearly in the path of future growth. Where utilities are planned, but not yet installed (on the way or with contracts let). If I can find a tract with seller financing and say 20% down, we can get great leverage and be reasoably assured it will appreciate not only because growth is headed toward it, but also because value is created when it can be developed (when utilities are available). A seller note is usually non-recourse. If we're wrong, we walk away without owing more. Being a developer, we can sell or actually put the improvements on the ground which is another step in the value creation process.

Believe me, real estate can go down!! As an example, in the mid 80s, a friend purchased a tract of land in Destin, Florida. When the economy shrank and some tax laws changed, it depreciated. Then storms hit the area and local development policies changed. It was the mid 90s before he was able to break even. Raw land can be pretty risky. Even a home can see neighborhood changes, whole areas soften when an industry is affected--like near D/FW when the airlines were hurt, etc.

Some folks feel strongly rental properties will recover in the next few years as interest rates increase, incentives to purchase a single family go away and some folks re-think home ownership. Many apartments here are selling for below replacement cost. If you can get enough income to pay the note and carrying costs, you could do well. Many lenders offer non-recourse financing for larger projects. The cost of payments on a loan of single family homes in many "hot" areas is much more than 28% of the median income. Many apartments have rents below that same income level. Homes are getting prices at points where fewer and fewer people can afford the payments; whereas, apartment rents are much more affordable. At some point, it makes sense to rent.

BTW, in Texas, your loan on you primary residence is non-recourse; a lender cannot seek a judgement for a deficiency after foreclosure according to Texas homestead law Section 50(a)(6)(C) cited in my MCE course. All the more incentive to purchase a larger home and use leverage if it makes sense.

Best,

Dave
 
Also, what the heck are you doing listening to anyone from the UK, home of guaranteed pensions for life, like all the other nearly socialist countries in Europe (not my observation, but that of a European economist who is very worried about the future of Europe)? I doubt that anyone in the UK has a clue about the assumptions to make about retirement in the US.

Judy
 
wsuffa said:
Greenspan has mentioned his concern about the inverted yeild curve. I think that merits concern. The proliferation of zero-down, interest-only, and 40+ year amortization schedules have driven a land rush.

.
Click to expand...


40 years???????? OMG!
 
woodstock said:
40 years???????? OMG!
Click to expand...

You think that is scary - some of the "fringe" lenders are writing loans backed by retirement accounts (401k, IRA's), and one lender in the Boston area is supposedly (according to my RE Developer friend) writing 103% 30 year mortgages for credit scores in the low 5's. I qualified for a mortgage last year that was 72% of my salary per month to pay. I was shocked, and that is what told me the market (in the Boston area) was just shot to heck.

Cheers,

-Andrew
 
astanley said:
I qualified for a mortgage last year that was 72% of my salary per month to pay. I was shocked, and that is what told me the market (in the Boston area) was just shot to heck.
Click to expand...

LA Basin, and really, every urban & most suburban areas in California, are in the same situation. There are quite a few folks (I know some personally) who are so over-committed on mortgage payments they can barely afford furniture for their house. If I had to buy my house today, it would be a real stretch, and I'm not counting on the value staying this high. It looks to me that market values in my area (north Orange County) have been leveling-off for the past few months, after 3 years of ridiculous increases in prices.

Jeff
 
Many of you have confirmed some of my thoughts, especially the local market theory. Real estate is a local/regional business. The markets that go up the fastest and the most are at risk of going the opposite way. More stable markets are less volitale. This is the reason many R.E. investors diversify geographically and with product type (retail, industrial, office, residential, etc)

The inverted yield curve is a concern. Its interesting that long and short term rates are so close. The last time this happened we had a recession. However, R.E. is still hot as its one of the few investment vehicles getting higher returns than the safe rate most of us use. There is still TONS of money chasing R.E. deals.

The interest only loans are nuts to me. I can't imagine not building equity especially on your home unless its guaranteed to appreciate, which of course there are no guarantees. A commercial or income/investment property is different, but I'd still like to have 20% - 30% equity. Unfortunately, I still remember the late 80's and early 90's where we had negative equity situations. It wasn't pretty. I hope that doesn't happen again, and probably won't as I think underwriting has become more conservative in general.
 
judypilot said:
Also, what the heck are you doing listening to anyone from the UK,
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I read everything! :<)

Actually, I'm the product manager for related product, a computer system that does investment record keeping for US and overseas based mutual funds (among other things). The article came from a publication that caters to folks in the industry that do retirement plan record keeping.

Len
 
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Anthony said:
There is still TONS of money chasing R.E. deals.

The interest only loans are nuts to me. I can't imagine not building equity especially on your home unless its guaranteed to appreciate, which of course there are no guarantees.
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Much of the risk on the interest only loans falls on the lender. Coupled with the known issues in the appraisal industry, any impact on this is going to be hard on the lenders and mortgage holders. That will cause repercussions throughout the nation (think RTC).

I am also concerned that a lot of the investment money out there chasing deals (real estate and otherwise) is coming from hedge funds, which are largely unregulated.....
 
judypilot said:
Also, what the heck are you doing listening to anyone from the UK, home of guaranteed pensions for life, like all the other nearly socialist countries in Europe (not my observation, but that of a European economist who is very worried about the future of Europe)? I doubt that anyone in the UK has a clue about the assumptions to make about retirement in the US.

Judy
Click to expand...
Another common misconception about the UK !!!
The standard "Old Age Pension" provided by the state is a massive $125 per week. If you think anyone is realistically going to live on that in a country where the cost of living is nearly double that of the US then I respectfully think that you have a different standard of living to the rest of us. By the way, in order to qualify for that meager amount you have to pay a substantial proportion of your income in National Insurance Contributions during your working life.
In the UK people are expected to make provision for their retirement by means primarily of the private sector and only if they don't (just like the US) does the state provide for a very minimal standard of living.
One main difference in "socialist" UK is that employers cannot steal from pension plans as they can here. You might not get as much, but at least you can be pretty sure that you will get it.
Stephen.
 
judypilot said:
Also, what the heck are you doing listening to anyone from the UK
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Great for you Judy but I'm planning on retiring to the UK:eek:

:cheerswine: Tea?
 
According to the Calculator, a 40yr old earning 100k needs 3.2m at 65 to retire.

I won't bore you with the math, but that would require putting something in the region of 25% of gross income away every year for retirement, assuming you got a 5% raise every year for the next 25, and a net 5% return on your investment every year.

Given the current IT industry average of about half that, and assuming that most people couldn't afford to put more than 10% aside (gross - thats still 200+ a week for a 100,000 a year earner), you'd need to average a net 8.5% return to make these numbers.

Oh and hopefully you wont wake up one morning and find your pension has been sold to the PBGC or something.
 
I'm lucky enough to be putting away about 30% of gross right now. But we have virtually no debt (just the house and a credit card that we put the shop on, with huge payments every month) and pay cash for most things.

For us, the idea is to live on one paycheck and just put the other one into retirement/savings/investments. We're not quite there yet but should be by the middle of next year at the latest...assuming nothing catastrophic happens.

There are things in our favor, though: no kids, student loans paid off years ago and we're lucky enough to make decent money.

A plane is probably going to throw that all to the winds but hey, at least I'll be able to fly when I want...er...when it's not in maintenance, I mean. :)
 
When comparing the housing bubble to the RE bubble, keep in mind, its a lot easier to liquidate your investment portfolio than sell your house....and people have to have a place to sleep at night! Price gains may stall, or slip a little, but I don't see a nasdaq kind of selloff. I've looked at many retirement formulas and don't put a lot of stock in them. Good for guidance I guess. But assumptions on your cost of living don't apply equally to everybody. A lot of it has to do with what you're trying to fund. While heathcare prices are way outrunning inflation, if your retirement comes with healthcare coverage, who cares? And who knows, maybe president hillary gets her healthcare plan pushed through and it's free for everybody! Housing is up bigtime. But if you own a house, or better yet your house is paid off, housing prices are not an issue. The one thing for sure is if you don't retire with enough, you're lifestyle will suffer and you may eventually find yourself, in your 70's or 80's looking for work. Something to be avoided! imho, tc
 
I was a little shocked at the number, but when I changed the "current income" figure to reflect that fact that I won't be funding retirement savings or making airplane payments then, it was actually smaller than what I'm set up to do. So I guess it's time to buy another boat!
 
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