Is One Million Dollars Enough?
One million dollars used to mean you were incredibly wealthy. Even if you didn’t have a secret lair. One million dollars meant you could do practically anything! To give you an idea – $1 million in 1960 would be worth over $8 million in 2016.
Sadly, the days of the really-wealthy millionaire have passed. One million dollars is no longer considered wealthy, but at least you won’t be living in a cardboard box drinking a bottle of swill wondering where it all went wrong.
Nowadays, in some personal finance circles it’s said that $1m is enough to retire on. Is it really enough to retire on?
Those of us living the dream of financial independence know it’s not how much you have, but how much you spend that actually matters…
Looking At The Numbers
We know from the Trinity study that a portfolio of common stocks can support a withdrawal rate of 4% for a period of at least 25 years.
In the past, I’ve argued that the study is a little out of date given our current economic conditions. Instead, I prefer the 3% rule due to my longer retirement timelines (30+ years!) and the very slow economic growth we’ve seen in current decades.
Depending on the withdrawal rate you use, a $1 million dollar portfolio can provide between $30,000 and $40,000 of income per year.
Is that enough? Well, don’t go spend it all on the first Ferrari you see….
Everyone is going to have different spending levels (of course). The single guy living in a one room apartment eating ramen every day will have a very different spending profile from a family of 4 with ravenous young children.
Some people are going to be naturally frugal, and others will be natural spend-thrifts.
The Bureau of Labor Statistics defines the average annual expenditure of a family in the U.S. as $53,495. That’s clearly well above the $40k/yr earned from our hypothetical $1 million. Better hold off on the champagne for now.
If one million isn’t enough, how much do we need? How do we determine how much to save for a decent retirement? Some rules of thumb say you should save 25 times your annual income. Is it really that simple? Let’s dig a little deeper…
Determine Your Needs And Your Comfort Level
There’s a whole spectrum of different spending levels — from frugal, to moderate, to spendy, and beyond.
This is why determining a good retirement budget is tricky; one person’s spendy is going to to be another person’s frugal. It needs to be personalized.
My recommendation is to forget what everyone thinks you should be spending. Forget about how frugal they say you should be. Forget silly rules like “80% of your pre-retirement income”, or “25 times your annual budget”. Forget about people with extremely low levels of spending. It’s your life, and your retirement.
Instead, make your own definitions about what retirement looks like. Find a level of spending that works for you.
Will it be Comfortable? Frugal? Or Spendy?
Begin With A Budget
Start by looking at your current annual budget. If you don’t yet know what your annual budget is, you need to start tracking it. Without knowing a baseline-level for your spending, you really can’t proceed any further.
Once you’ve got your annual budget in hand, you’ll need to ask yourself a few questions:
- Is this budget comfortable in the long run?
- Can I afford to eat healthy? Or, can I eat what makes me happy?
- Am I satisfied with my current level of travel
- Am I satisfied with my current level of entertainment?
- Do I want to have different hobbies?
- Can I afford decent health care at this level?
- Do I have enough buffer in the budget for unexpected issues?
Nobody is going to be able to answer these questions for you. You need to do it. [Note: If you have a spouse or significant other, you should definitely be discussing these questions together]
Once you know how you feel about your current budget, you’ll know where to put yourself on the Retirement Budget Spectrum (RBS).
The Tako Family Budget
I find examples always help, so I’ll use the Tako family’s budget to illustrate…Our current annual budget is $48,000/yr.
We feel pretty happy with this budget, and we’ve been living this way for years. We are healthy, and well entertained. Our house is probably bigger than we need. We eat pretty much anything we want. We don’t drive fancy cars. For travel, we take short weekend trips, and usually one big family vacation (with flight) per year. Spending on entertainment is otherwise pretty minimal.
I call this level of spending Restrained. We’re not extremely frugal. Things are a little tight because a huge chunk of our budget goes to child-care. But that won’t last forever.
Once our kids get older, I expect some of it will pay for things like education expenses, kids clothes, and after-school clubs. The rest of it will probably be needed for healthcare. (Those costs just keep rising!)
So, could we go lower on the Spectrum? If we were willing to make some tradeoffs…
I could keep Tako Jr. #1 at home with me. We could travel less. We could ride bikes or take the bus. We could spend less on food (rice and beans anyone?) But I wouldn’t want to live that way for long.
That level of spending reaches down into Extreme Frugality. That’s an uncomfortable level of frugality for me. I don’t think I could maintain it for decades. The good news is, this means we have buffer room in our current budget.
If the economy went to hell, we could tighten our belts and spend less.
On the opposite end of the spectrum, we could also spend a lot more. We could travel more frequently. We could go out to dinner more. We might even buy clothes that were not from the thrift store.
I imagine a life with enough extra income to waste some of it on comfort, but not spend with abandon. I call it the Comfort Budget.
Doesn’t it sound like a nice retirement budget? It certainly does to me! It’s the Goldilocks of retirement budgets — Not too little, and not too much.
How much extra would we need per year to attain the Comfort Budget? I estimate an additional $10,000 a year would be enough to give us that extra bump into the easy life.
A total of $58,000/yr.
Interestingly enough, this is slightly above the average annual spending covered in the BLS report, which gives me a certain level of confidence in this number.
A life with extra creature comforts should have a slightly above average budget. Mind you, that’s not Giant Jackass levels of spending.
Going From A Budget To A Portfolio
Once you understand your desires on the Retirement Budget Spectrum, you can then work backwards to find the ideal portfolio size.
Finding the ideal size is as simple as dividing the ideal annual budget by the withdrawal rate:
Ideal Portfolio Size = Expected Annual Budget / Expected Withdrawal Rate
In our case, the ideal portfolio size works out to be $1.93 million dollars. We expect to have an early retirement that exceeds 30 years so we continue to use the 3% rule for our calculations.
If you have a shorter retirement timespan (or are more confident in the world’s economic prospects), you could use the 4% rule.
It’s Not Even Close To 1 Million
Obviously our portfolio needs to be a lot larger than the aforementioned $1 million. But $1.93 million is a life we’re going to be comfortable with!
There’s wiggle room for living through bad times, and living it up during the good times. If we tried to live on less (like $1 million), it would leave very little room for error.
I don’t know about you, but nothing in my life ever goes smoothly! I always plan with a decent buffer. My FIRE budget is no exception!
Thankfully, our current portfolio is actually very close to our ideal….We now have about 2.1 million in assets, and roughly $1.8 million we could liquidate quickly if need be.
I think we’re ready!
What kind of budget will you plan for retirement? Will you enjoy spending, or will you enjoy a spartan life of frugality?
Hey Mr. Tako…Just wanted to write a quick note to let you know that I’ve been following your blog and appreciate and enjoy your writings – thanks for taking us along with you on your journey.
Thanks Steve! Keep reading, and I’ll keep writing!
You’re sitting pretty with over 50x your current annual budget in assets. “Restrained” spending is a good term. That’s how we roll as well, although we are spending a bit more than you, but much, much less than the average physician.
I’m shooting for at least 40x, preferably 50x before I retire. It’s overkill and more than necessary, but I think of the extra as insurance. We’ll be self-insured against lifestyle inflation, a market catastrophe, or huge unexpected costs.
Keep up the great work (investing and writing)!
-PoF
Thanks PoF!
Good post Tako San. I have always had trouble calculating the ratio. For ex, do you take a straight ratio of net worth (minus primary home) to annual budget? Or do you subtract all the ‘buckets’ earmarked for future lump sum expenses, like Medical Emergency not covered by Insurance, College Cost for kids, Non-recurring Capex items like car, furniture, appliances etc. In my case, these budgeted items are over 25% of my investable net worth. So, when I calculate the ratio of retirement-earmarked assets to annual budget, I am at 33 ratio. This is the basis on which I have become FIRE’d. Hopefully, this ratio will improve organically because our dividends currently cover 125% of our annual expenses, allowing for partial reinvestment to grow the portfolio.
I don’t account for everything in separate buckets. For regular recurring capex items (like food, mortgage, daycare), I match that to dividends. That stuff *always* needs to be paid so dividends are a good match.
For everything else (which is mostly unpredictable), I account for that in capital appreciation growth. I’m generally looking for cap-appreciation growth of at least 1%-3% above inflation. That kind of appreciation on the 1.93 million, works out to be $19,300 – $57,900.
That should be able to cover most things…especially the kind of cars I drive. 😉
Nice post. There is no single definitive answer on how much is enough because everyone has an own spending habit. I used to follow the famous 4% rule to measure my retirement income but no longer pay attention on it. I focus on how much my money would be generated and strictly plan to spend the only passive income. In that case, my investment principal would remain. Touching the principal is a retiree killer. This would increase a chance of financial survivability for 40 or 50 years.
Yes indeed. I pretty much just live off dividends these days, and that works out to be roughly 3%.
You’re at $2.1 million in net worth?? I’ve got to go back and re-read some of your previous posts! That’s a remarkable accomplishment!
Gosh, thanks! 🙂
You seem to like the 3% rule quite a bit which is nice and conservative. Right now you can get CDs for 2% and change if the landscape changed and CDs returned 3+% would you move into that?
Also I moved to Taiwan for the summer and $1 million would be plenty for current living expenses.
I don’t think I would ever go into CD’s. Here’s why: it’s not just a 3% return I’m looking for. I need 3% plus another 3% to account for inflation plus another 1-3% for regular capital appreciation.
In total, that means I need to see total returns of 7-10% to keep my income, keep up with inflation, AND keep up with the general economic growth. There’s only a few financial instruments that get me into that range (stock, preferred shares, some real estate), but I highly doubt CD’s will ever get there.
Nice post, Mr. Tako! I’m looking forward to being in a position similar to yours in the near future!
For a while, I was pretty focused on hitting “the number” to reach FI when I quit the 9-5. However, I began to realize that the passive income I’m starting to acquire (rental property) tends to throw the 4% rule out of whack somewhat.
Hopefully I’ll be able to continue to buy new houses/duplexes that generate some real solid returns and make the magic number not as important.
— Jim
I’m working to set up my portfolio for the 3% rule plus some part time work that I enjoy which will provide an added buffer. I think going from 4% down to 3% provides some additional safety without giving up too much.
Ha, that diamond covered car actually looks like it’s covered in bird poop. I’m not sure I’d like to pay for that 🙂
Good post Mr Tako!
I wish I was at your levels of portfolio! Right now I’m more at a Giant Ramen Bowl Everyday level right now rather than Giant Jackass level 🙂
That’s great! We’re at about the same level with our net worth and spending. Life is very comfortable right now, but we’ll be vigilant. I like 3% better too because our retirement is so long. Actually, we’re putting off withdrawal for a while. Once Mrs. RB40 retires, we’ll probably withdraw a little. Should be much less than 3% even after she retires. When we hit 55, we’ll raise our travel budget and spend a bit more. A million dollar is nice, but not quite enough. We’d probably have to relocate to a much cheaper location.
Love the Retirement Budget Spectrum! Great way to look at things. I also like the approach of determining how much it would realistically take to bump into the next “zone” upward.
Thanks!
cool graphic showing saving spectrum. I’m a natural saver -I would rather stress less and live a simpler life. I enjoy the basic pleasures of hanging out with friends, home cooked food and keeping healthy and active especially walking and playing pickleball (much less $ than a gym membership).