How Much Money Do You Need to Retire? Exploring Popular Retirement Models

Retirement planning is one of the most critical financial goals you’ll ever undertake. How much money do you need to retire comfortably? This question has perplexed many of us over the years, including myself. Through books, consultations with financial advisors, and a lot of reflection, I’ve explored various methods for calculating the savings required for a secure retirement. In this post, we’ll dive into seven popular retirement models to help you determine the best approach for your goals.

1. The 4% Rule (and the FIRE Model)

The 4% Rule is one of the most popular retirement planning models. Historical market data suggests withdrawing 4% of your invested savings annually, adjusted for inflation. This method aims to ensure your savings last at least 30 years. Advocates of the FIRE (Financial Independence, Retire Early) movement often adopt this rule to accommodate extended retirements if choosing to exit early from the workforce.

Calculation example: If your annual expenses are $40,000, you’ll need $1,000,000 in savings.

While simple and effective, this model assumes steady market performance and may not account for prolonged market downturns or unexpected long retirements.

2. Monte Carlo Simulations

Monte Carlo Simulations use advanced statistical modelling to evaluate thousands of potential retirement scenarios. By factoring in variables like market volatility, inflation, and withdrawal rates, this model provides a probability of your savings lasting throughout retirement.

Typically used by financial advisors, this model requires specialised tools and detailed inputs, such as savings, expected returns, and expenses. The result is a comprehensive, data-driven report to guide your planning. While highly informative, interpreting the results can be complex, making professional guidance beneficial.

3. Expense and Passive Income Model

The Expense and Passive Income Model focuses on your actual retirement expenses rather than your pre-retirement income, making it ideal for those with variable spending patterns. This approach requires a detailed forecast of all expenses, including essential costs (housing, healthcare) and discretionary spending (travel, hobbies).

Additionally, it incorporates passive income sources, such as rental properties, dividends, or pensions. The goal is to ensure your passive income meets or exceeds your annual expenses, reducing reliance on asset drawdowns.

While this model encourages income generation over asset depletion, it requires precise expense forecasting and stable, predictable income sources. Factoring in inflation and unexpected costs is crucial to its success.

This is the model I use to determine our retirement income. I will share some useful templates to capture your future income and expenses.

4. Life Expectancy-Based Model

The Life Expectancy-Based Model calculates your savings based on your estimated lifespan, dividing your portfolio by the number of years you expect to live.

Calculation example: If you have $1,000,000 in savings and a life expectancy of 30 years, you could withdraw $33,333 annually.

This straightforward model emphasises the importance of accurate life expectancy estimates. Life expectancy steadily increases in many developed countries, meaning retirees may need their savings to last longer than previous generations. For example, in Australia, the average life expectancy is around 84 years for women and 81 years for men. In the United States, it is slightly lower, with women living an average of 81 years and men approximately 77 years.

Personal factors such as genetics, lifestyle, and access to health care can significantly influence individual life expectancy. It’s essential to plan for the possibility of living longer than these averages, ensuring your savings can support you through extended retirement years. This highlights the importance of incorporating longevity into your retirement planning. Models like the Life Expectancy-Based Model or Monte Carlo Simulations are particularly useful, as they account for varying scenarios and help you assess how long your funds might last.

5. Replacement Rate Model

The Replacement Rate Model estimates your retirement income needs as a percentage of your pre-retirement income, typically between 70% and 80%. This model assumes expenses will decrease after retirement due to reduced commuting, lower taxes, and fewer work-related expenses.

Calculation example: If your pre-retirement income is $100,000, you’d need $70,000 to $80,000 annually.

This model works best for individuals with consistent spending habits before and after retirement. However, it may not account for significant lifestyle changes, such as increased healthcare costs or travel plans. This model does not directly calculate the total savings required to retire. To answer the question, "How much money do I need to retire?" the Replacement Rate Model needs to be combined with other frameworks, such as the 4% Rule or similar withdrawal strategies, to determine the total savings required to generate that income throughout your retirement.

Which Model Is Right for Me (that’s Us)?

After evaluating the Expense and Passive Income Model, I realised the need for a more nuanced approach to reflect changing spending patterns throughout retirement. That’s when I discovered the Go-Go Years, Slow-Go Years, and No-Go Years framework. This model focuses on the evolving lifestyle and spending habits of retirees across three distinct phases of retirement, making it an invaluable complement to traditional financial models.

The Go-Go Years represent the initial phase of retirement, typically characterised by energy, health, and enthusiasm for pursuing long-deferred dreams. Retirees in this phase often spend more on discretionary activities such as travel, dining out, recreational hobbies, and possibly relocating.

While healthcare costs are generally low, if your health remains good, it's important to budget for these active years with the understanding that spending will likely taper off in the future.

The Slow-Go Years - As retirees transition into the Slow-Go Years, typically between ages 75-80, active levels begin to decline. Travel may decrease, and physically demanding hobbies might lose their appeal. Social and leisure activities often become more local, and healthcare costs start to rise as medical needs increase.

Spending on discretionary activities like travel and dining out tends to decrease, while healthcare expenses are more prominent in the budget. Adjusting your financial plan to accommodate these shifts is crucial.

The No-Go Years, around age 80, mark a phase where physical limitations and health issues significantly impact lifestyle and spending patterns. Essential expenses like healthcare and long-term care often dominate budgets, while discretionary spending becomes minimal.

This is a generalisation only as I have friends well into their 80s who, although they have some health issues, still travel extensively. However, they are no longer able to hike Kilimanjaro.

I hope science catches up and some magic happens with anti-aging, such as those pursued by Dr. David Sinclair (author of Lifespan). His research offers hope for extended quality of life and vitality, notwithstanding it’s wise to prepare for current realities. Planning for assisted living, in-home care, or similar support systems is critical for this phase.

Integrating Models for a Comprehensive Plan

Considering the Go-Go model, our Expense and Passive Income Model has been adapted to include our inflation-adjusted forecast expenses. I’ve then applied the 25x 4% Rule to give us our FIRE number :-) We now have a clearer picture of our FIRE number —a savings target that supports our lifestyle goals and the realities of aging.

Which Model Is Right for You?

Each retirement model has its strengths and limitations, and the best approach often lies in combining insights from multiple frameworks. Consider starting with your expected expenses and adjusting for lifestyle changes using the Go-Go Years model. Without factoring in longevity, there’s a risk of outliving your retirement savings—underscoring why thoughtful, data-driven planning is essential for a secure and comfortable retirement.

Careful preparation is key to crafting a retirement plan that aligns with your personal goals and dreams. To ensure your strategy is robust, consult professionals such as a qualified financial advisor. Their expertise can provide valuable insight and help you confidently navigate the complexities of retirement planning.