Are You Saving Enough for Retirement — or Too Much?

PBS NewsHour business and economics correspondent Paul Solman is now answering questions from Next Avenue visitors about personal finances, business and the economy. His advice appears on Next Avenue as well as Solman's PBSNewsHour blog, Making Sen$e With Paul Solman, and the Rundown, NewsHour's blog of news and insight. PBS NewsHour is an hourlong television program and accompanying website with the mission of providing intelligent, balanced and in-depth reporting and analysis of the day's most important domestic and international issues and news.

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The calculations I've seen for retirement planning all seem to be based on income rather than expenses. But exactly how much of my pre-retirement income should I be trying to replace? Since I'm now saving 20 percent of my income for retirement, shouldn't I base my planning on having 80 percent of my current income (even assuming my expenses are the same)? And do I base my retirement income needs on gross income or adjusted income? My current paycheck deducts Social Security and FICA. — Angie Stehr

Yes. The traditional rule of thumb is to save enough so you can spend 80 to 85 percent of your pre-retirement after-tax income once you stop working. But be careful, now: I'm also referring to the after-tax income you expect to receive in retirement.

Let’s assume your household is right at the national median: $50,000 a year, after taxes. Taking you at your word, you’ve been saving something above 20 percent a year, so let’s make that figure $12,000. That means you've been living on $38,000.

Further assume, as I do, that your out-of-pocket expenses won’t go down in retirement. Yes, you may not ever have to buy another piece of furniture, but you’ll spend more to travel. (For my own retirement-planning purposes, I figure it will all more or less even out.)

After-Tax Retirement Income Is Key

So you need to generate income of $38,000 a year, after tax. But that may mean a yearly "income" of more than $38,000 a year. That's because, if your retirement money is mainly invested in a tax-deferred IRA or 401(k), it will be subject to taxes when you withdraw it. That's what "tax-deferred" means.

Same thing for Social Security benefits, by the way. If your annual household income exceeds $32,000, you'll be taxed on as much as half of your benefits. Income beyond $44,000? Then, 85 percent of your Social Security income may be taxable. (The tax on Social Security income stops at 85 percent of your benefits.)

You get the idea, I trust. You'll need something like after-tax income of $38,000 a year, which means income in the $40,000s, including Social Security.

Are You Saving Too Much for Retirement?

Here's a final, heretical thought: Might you be saving too much?

Quite possibly, thinks our Social Security guru, Larry Kotlikoff, whose posts have drawn more 600,000 views since he first appeared on Making Sen$e on July 30.

Larry has long warned that investment firms that profit from managing your money frighten many people into saving more than the amount in the rule of thumb above and therefore depriving themselves in their prime.

For a solid summation of Larry's analysis and related thinking, read this Time Moneyland blog by Dan Kadlec: “Are You Saving Too Much? No, Really."

Paul Solman is a member of the Twitterati and can be followed at Twitter@paulsolman. His daily blog can be followed, well, daily at Making Sen$e by linking here, or just Googling the words: "Making Sense."