It's the age-old question: How much should I save for retirement?
For years, financial advisors recommended people save at least $1 million to enjoy a comfortable retirement. But given longer lifespans and concerns about the financial status of Social Security, is that target enough to fund a potentially decades-long retirement?
Well-off investors surveyed by asset manager Legg Mason in March said that they would need at least $2.5 million to maintain their lifestyles in retirement. And a recent survey by the Employee Benefits Research Institute found more than 1 in 10 workers overall think they'll need to save at least $1.5 million to retire comfortably.
On the other hand, 69 percent in the same EBRI survey thought they'd need to have less than $1 million by retirement—and 1 in 5 thought they'd need to save $250,000 to $499,999. (Even that is more than what many retirees have actually saved. The average retirement savings is about $104,000 for households with members ages 55 to 64 and $148,000 for households with members 65 to 74 years old, according to an analysis by the Government Accountability Office.)
Financial advisors say the estimates are not surprising, given the range in incomes in America.
That's one reason why many advisors recommend investors use their income to benchmark their progress in building a nest egg. For instance, Fidelity Investments, the nation's largest provider of retirement accounts, suggests workers aim to save at least eight times their ending salary by retirement.
Advisors often estimate how much a client will need in retirement by calculating an income replacement rate based on the client's current income. An 80 percent replacement rate is a common benchmark. That means if an investor makes $100,000 annually, he or she would need a portfolio that generates $80,000 in income each year plus annual increases to adjust for inflation.
David Blanchett, head of retirement research at the Morningstar Investment Management group, tested the 80 percent income replacement rate for retirees using government survey data and Monte Carlo simulations.
A replacement rate of 70 to 80 percent is a reasonable assumption for most households, Blanchett found. However, when actual spending patterns of retirees were considered, the data showed that many people could get by with about 20 percent less in retirement savings.
"The true cost of retirement is highly personalized based on each household's unique facts and circumstances," Blanchett concluded.
Income may not be as important as what your expenses will be in retirement when estimating the size of your nest egg.
"Specific dollar amounts are arbitrary, and percentages of income do not matter much at all either since many people's incomes fluctuate dramatically over time," said Elizabeth Grahsl, a certified financial planner in Dallas. "The only thing that matters is your expected expenses in retirement."
Grahsl recommends her clients accumulate enough savings to cover 25 years of expenses in retirement. That's a reasonable assumption for people nearing retirement age now. The average man who is 65 is expected to live until 84, according to the Social Security Administration. and the average 65-year-old woman is expected to live to 87.
"Most people can live on far less than they make once they have independent kids and a paid-off home," Grahsl said.
Retirement planning shouldn't be crafted around a rule of thumb, said Kathy Kraeblen, a certified financial planner at PNC Wealth Management in Raleigh, North Carolina.
People need to consider how long they want to be in the workforce, who they will be responsible for in retirement, all their sources of income (including Social Security) and also estimate what their future health costs could be to come up with a clear estimate of their savings needs, Kraeblen said.
"It's a decision that should be personalized because everyone is different," she said.