ten percent

I've come across this heuristic that we need to save 10% of our income for retirement so many times that I finally decided to figure out if the number made any sense. I've posted before about how the average savings rate in the U.S. is actually around 0%. The reason I'm so interested in this is I'm wondering what happens down the road a few decades when social security is bankrupt and most people have no sources of income and no savings and they're nowhere knew death. Move in with the kids? Does 10% savings get us anywhere near where we need to be? Or is it like drinking 8 glasses of water a day where there is no basis in reality for the number.

I made a pretty simplistic model, but I took into account the big drivers - tax rates before and after retirement, capital gains taxes, asset appreciation, retirement at 65, etc. One important thing to keep in mind is that house equity can't necessarily be defined as savings in the analysis below. If you have equity of $100,000 in your home but your retirement home will cost $100,000 then that equity isn't 'savings'. I have retirement expenses going down 80% in the model because I assume your retirement house is paid off. Also I'm not including social security payments into this which I personally think is a good assumption.

The model assumes a 10% nominal or 7% real return on savings before retirement and a 7% nominal or 4% real return on savings after retirement. Let it be known I think these returns are aggressive contrary to what you read.

A few definitions of the columns below:

• Savings Age - Age you start saving
• Retire Age - Age you retire
• Savings Rate - Percent of salary after taxes you save
• Savings Run Out - Age your savings will run out
• Save Ratio Age X - Ratio of Savings to gross salary you should have at that age

Savings	Retire	Savings	Savings	Save Ratio	Save Ratio
Age	Age	Rate	Runs Out	Age 40	Age 50
21	65	10.0%	92	2.13	4.25
21	65	14.3%	Never	3.04	6.07
21	55	18.3%	92	3.89	7.77
21	55	22.6%	Never	4.81	9.60
35	65	19.8%	92	0.87	3.02
35	65	27.2%	Never	1.20	4.15

In general I've got 3 pairs of results. The first 2 rows are 'normal saving'. The second two rows are 'early retirement'. And the last 2 rows are 'late saver'. And for each pair I have a 'support yourself to 92 years old' and a 'support yourself forever' (see Savings Runs Out column). The key column to look at is the Savings Rate.

In general saving 10% of your net income puts you in a pretty good spot. You can probably live to around 92 years old. And bumping your savings rate up to 14.3% allows you to not have to start rooting for a death at that age. You can live forever. A much more prudent number to shoot for.

Start later though and you'll be in a world of pain. Your savings rate needs to be up in the 20% range to get back to even. In fact if you wait until you are 35 and start saving 10% a year you will run out of money only 8(!) years after retiring (not shown). That is grim.

Retiring early is just as taxing. Again you have to hit 20% savings rates to think about hitting the beach while you still look good in a swim suit.

The final caveat is that my returns are constant each year. In reality that is not realistic. Consider 1966 to 1983. In '66 the Dow Jones hit 1000. In '83 it finally went to 1001. That's 17 years without a return. If you look at the end of that chart in the link you'll see we haven't moved much in a very similar manner for 6 years.