How Much Money Do You Need and 7 Other Retirement Questions Americans Get Wrong

man and woman enjoying retirement at a beach

How are your retirement plans coming along? | iStock.com

There’s a knowledge gap surrounding all things retirement. If it were easily comprehensible, Americans wouldn’t devote so much time and stress learning how to properly prepare for it. Many are unaware of what it truly takes to save for retirement or how to get started in the first place. The jargon around retirement can make us fall back into a retreat in search for our blissful, yet ignorant cocoons. What truly constitutes a diverse investment portfolio, and how many years do we need to account for?

Fidelity Investments attempted to answer those very questions. It conducted a Retirement IQ Survey to test America’s general knowledge of the topic. And it’s no surprise many Americans missed the mark. In fact, some were shooting on an entirely different range.

Retirement might seem like a distant pipe dream, entirely out of reach for your generation of workers. But your dream can become reality if you start planning today. Let’s test your retirement IQ and see how prepared you are for your future.

Let’s take a quick look at answers to Fidelity’s eight questions that will help shape your retirement planning. We’ve also included some retirement tips at the end.

1. Roughly how much do investment professionals estimate people save by the time they retire?

Money stuffed in a mattress

Most people severely underestimated how much they’d need to save. | iStock.com

What the survey said: 74% of respondents underestimated how much they would need to retire and maintain their standard of living. What’s worse is 25% — 19% of those ages 55 to 65 — thought only two to three times of their most recent annual income would be sufficient for retirement.

The correct response: Fidelity estimates we should be saving “at least 10 times the amount of one’s last full year’s income.” For example, if your salary at age 35 is $65,000 annually, you should have about $650,000 in retirement savings before you start making plans for a life in the Florida Keys. If this number worries you, consider saving at least one to three times your income now, and gradually increase that amount as you get older. Think of it as giving your future self a hefty raise every few years. A better measure may also be to save 25 times your estimated annual expenses in retirement.

2. How often over the past 35 years do you think the market has had a positive annual return?

Woman checks stocks on her phone in front of a laptop

Investing in stocks can help pad your retirement. | Pixabay

What the survey said: The market has seen a positive uptick 30 out of the past 35 years, but it seems no one would know it. A negative outlook on Wall Street might have influenced answers because only 8% of overall respondents and 14% of 55- to 65-year-olds answered correctly.

The correct response: The S&P 500 index shows an average return of about 10%. But when we consider inflation, that gain is about 7%. It’s clear investing in the stock market could yield significant returns down the line.

3. If you were able to set aside $50 each month for retirement, how much could that end up becoming 25 years from now, including interest if it grew at the historical stock market average?

women add pig scraps for bacon in England

Saving a little can go a long way in retirement. | Fox Photos/Getty Images

What the survey said: If question No. 2 stumped you, then you were doomed from the start with No. 3. About 47% of applicants underestimated the value of small savings over time. And 27% of respondents estimated a stock investment return at zero and calculated a savings of $15,000 — a much lower number than is true.

The correct response: If we consider the average market return of 7% on $50 a month, compounded monthly interest would significantly increase that amount to roughly $40,000, not $15,000. Saving early, even just 1% of annual income, can make a big difference. For example, a millennial who saves 1% of a $40,000 annual income could see an increase of $1,930 every year for 12 years.

4. Given the current average life expectancy, if you want to retire at age 65, about how long would you need your retirement savings to last?

Regis from Who Wants to be a Millionaire

The key to making your savings last is to start saving early. | ABC

What the survey said: Participants’ knowledge about how to prepare for retirement was equally dismal to their knowledge about retirement savings. About 38% of Americans are hoping for a ride on the gravy train and believe their savings should last only 12 to 17 years. That number is actually much higher.

The correct answer: The average life expectancy is 85 for men and 87 for women. Therefore, most would need to stretch their savings for at least 22 years — unless you’re OK with running out of cash during your golden years. But people are living longer these days. When considering the younger generations, it’s recommended they save for at least 30 years of retirement.

5. Approximately how much did the average monthly Social Security benefit pay in 2016?

two old friends laughing

Half of survey participants did not know how much social security they’d receive monthly. | iStock.com/kazoka30

What the survey said: When it comes to social security, the respondents got serious. About 43% overall answered this correctly, and half of the 55 to 65 age group got it right. The other 50% who got it wrong should keep reading.

The correct answer: The average monthly social security benefit is $1,300, but there are many factors that influence this number. You’ll receive the highest monthly payout if you wait until your full retirement age to withdraw. Fidelity says those who wait will increase their monthly Social Security income by 30%.

6. About what percentage of your savings do many financial experts suggest you withdraw annually in retirement?

bank deposit slip

Learn to live conservatively during retirement. | iStock.com

What the survey said: Those ages 55 and older are chomping at the bit to withdraw large annual amounts of 7% or more. Furthermore, 15% of that age group thought a 10% to 12% withdraw would be financially doable. Spoiler alert: It’s not. Withdrawing such a high percentage could drain your savings in less than a decade.

The correct answer: Fidelity recommends a sustainable withdraw rate is 4% to 5% of your initial assets. For example, if you have $650,000 in retirement accounts, then a 4% annual withdraw would equate to about $26,000. After adjusting that rate for yearly inflation, you’d have more than enough savings to last you through 22 years of living expenses.

7. What do you think is the single biggest expense for most people in retirement?

Elbaroda Hideaway

Housing, transportation, and medical bills will be your biggest expenses. | Tybee Vacation Rentals

What the survey said: Let us guess: You answered health care as the biggest retirement expense. If so, you and 69% percent of Fidelity’s survey participants got it wrong. However, it is worth acknowledging, at least. Due to recent cost increases, health care has become the most unpredictable expense to plan for. It was also the No. 1 item respondents were most worried about being able to afford throughout retirement.

The correct answer: Housing, health care, and transportation are typically the largest expenses in retirement. But when it comes to total cost, housing takes the cake. The Bureau of Labor Statistics estimates housing will eat almost 50% of savings for households with a spouse 62 years and older. Medical costs come in at roughly 12% of total retirement expenses.

8. About how much will a couple retiring at age 65 spend on out-of-pocket costs for health care over the course of retirement?

retirement plan documents with coffee

Do you have enough money for retirement? | iStock.com/c-George

What the survey said: Speaking of health care, the survey shows yet another case of wishful thinking. Seventy-two percent of respondents underestimated out-of-pocket costs in general, and 22% of respondents underestimated their amounts by a whopping $200,000. Only 15% of respondents were correct in their estimations.

The correct answer: The average 65-year-old couple retiring in 2016 should expect to pay about $260,000 in out-of-pocket health-related costs throughout retirement. When calculating this number, the Fidelity estimate assumes the couple does not have employer-provided retiree health care coverage but does qualify for the federal government’s insurance program.

How to start saving for retirement today

retirement nest egg

Establish a diversified retirement portfolio. | iStock.com

Looking at these numbers is like sticker shock at the department store. But knowledge is power. So spend a few hours here and there learning about your needs and how to increase your wealth over time. The more you talk about it, the less scary it’ll seem. It’s hard to know where you stand on the retirement spectrum because every person has a unique vision and varying circumstances to account for.

Although boosting your retirement IQ is an excellent first step, Ken Hevert, senior vice president of Retirement at Fidelity, says, “The majority of investors need to have a diversified portfolio that includes equities to enable growth over time. If you’re not investing, you’re likely losing money due to inflation.”

First and foremost, start early. Time is on your side. A little goes a long way when it comes to savings over time, so match your employer contributions when you can. As you move up a few rungs on the career ladder, consider increasing your automatic contributions gradually. Compounding interest will become your closest confidant, as even the tiniest increases will grow exponentially by the time you hit your golden years.

Also, now that you know housing will be your biggest retirement expense, consider downsizing or relocating to another state that could significantly lower your cost of living. Your retirement destination could very likely hurt you down the line.

Finally, get in a conservation mindset, and learn to live on a budget. This survey shows us some new retirees make the mistake of withdrawing too fast or too much. Fidelity suggests breaking down your expenses into two categories: guaranteed income sources and portfolio withdraws. Then, use your guaranteed income, such as social security, pensions, and annuities, to cover essential costs, and use portfolio withdraws to cover extracurricular or unplanned life expenses.

Follow Lauren on Twitter @la_hamer.

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