Financing Retirement: What's Your Real Number?

by: David Van Knapp
This is the second article in a series on financing retirement that I'm planning to put together. My first post, Financing Retirement: It's All About Income, can be found here. The idea of the series is to provide one person’s view of retirement from the front lines.
You have probably seen one of the cute ING commercials where everybody is carrying their “number” around. One person will be carrying $1,305,622. Someone else will be carrying $2,201,588.” One poor guy’s number is “$Gazillion.” It turns out that he really didn’t have a plan.
“The Number” has become the holy grail in retirement planning. ING says that “Every person has one,” and defines it as “The amount you will need to have saved to retire the way you want.” On their home page, they show an example that changes each time the page is accessed. When I went there, the number was $1,280,385. It was festooned with little notes like, “Sally found her number,” “Now that I’ve found my number, I’m one step closer to retirement,” and “Bringing my lunch to work will save me $222,158 over 40 years.”
The implication is obvious. If you haven’t saved “your number” by the time you retire, you’re screwed. You can’t have the retirement you want. Or you just can’t retire. ING provides a little calculator for you to find YOUR number. Just fill in your age, current income, how long you want the money to last, etc., and your number pops up (cleverly in the same font and orange color as in the commercials). I did it, and discovered two things:
  • I need more than twice as much as I’ve got; and
  • I can’t retire unless I accumulate well over $1,000,000 in one year.
But the facts are these: I have BEEN retired for almost ten years, and my wife and I live extremely comfortably. Lack of money will not stop me from doing anything on my bucket list. There’s obviously a disconnect. ING is clearly wrong, at least in my case, because I am already living the life they say I can’t have.
I don’t know how their calculator works, but I’ll bet they are making some of the assumptions that I criticized in my first article. Assumptions that lead to a distorted view of how retirement really works.
In that first article, I said, “It’s all about income.” Meaning that, in retirement, you need to generate the income needed to cover your expenses. And that, I think, is the disconnect: Calculators and general rules of thumb focus on the sum total they think you’ll need to generate the income you require. But there are so many ways to generate income that they overlook some, and in many cases they also make the mistake of over-estimating how much you will need. So they might say you need $2,380,507, when in fact you only need half that much.
In short, they’re focusing on the wrong number. They’re focusing on an amount of capital to fund “the retirement you want.” But they should be focusing on the annual income needed to live the retirement you want. So the characters in the ads should be carrying around numbers like $80,000, or $120,000. Not numbers in the millions or a gazillion.
A few months ago, I wrote an article, “Why I Love Dividends.” It led to a fascinating exchange of comments (119 to date). One thread of the comments revolved around the capital versus income distinction. The debate was about whether it is better for a company to retain its capital (to invest in itself to achieve maximum growth) or to issue dividends along the way, while still retaining enough capital to grow at a decent rate.
What I will call the pro-dividend crowd argued in favor of dividends when a company has what amounts to excess cash not needed to fund growth. The pro-capital-retention crowd argued that companies should retain all cash to fund growth, or use it to buy back shares, thus increasing the capital value of each remaining share. The argument spilled over into how a retiree should fund retirement. As might be expected, the pro-dividend crowd argued that dividends themselves can fund or help fund retirement. The pro-capital crowd argued that one should aim to let his/her capital grow as much as possible, then sell some assets each year to fund retirement.
In the context of the current question—are you looking at the right number?—I think that this debate mirrors the disconnect between the ING ads and my point that it all comes down to income. The ING approach must assume that capital will be converted to income by selling off some assets each year. After all, your grocer will not accept a framed “$2,380,507” in payment for your tomatoes. He/she wants money, not a printout of your assets.
In my earlier article, I suggested that each person should create a retirement budget, showing the annual income needed to “retire as they want.” Then list the sources of income—a part-time job, pension, social security, dividends, interest, and the like. Only when a gap needs to be bridged—when the various sources of income don’t meet your retirement budget—do you need to sell off part of your assets. And—gasp—if you have been purchasing dividend growth stocks for many years, it is entirely possible that the yield of those stocks may have reached 10% or more, and that they alone may be generating so much income that there is no gap that needs to be bridged.
I am no fan of annuities, but an annuity is a vehicle that converts capital to an income stream. Using the simple calculator at Immediate Annuities, one can see that you could generate $2000 per month by making a one-time payment of $326,428 (for a male in New York) to an insurance company. The fine print: This buys a “Single Life Income with No Payments to Beneficiaries….You receive this income for your lifetime, which means, you can never outlive this income. After you die there are no payments made to beneficiaries.”
Let’s say you have a pension that pays you $2000 per month. Many boomers have pensions from private companies. So do cops, firemen, teachers, and other former public employees. Using the same calculation, you can see that the pension is the equivalent of having $326,428 more capital than you actually have. Social Security is another income stream with a capital equivalent. It is by figuring things like this into your retirement planning that the gap is bridged between ING’s huge, scary number needed for retirement and the more commonsense annual retirement budget that actually funds “the retirement you want.”

Disclosure: No position in ING.