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So, you want to know how much you need to retire. Are you there yet? Here's a quick way to find out.
First, decide the annual income you'd like to have if you were to retire today (this method works for any other investing goal as well, but we'll stick with retirement for our discussion). Let's use $40,000 as an example. If you wanted an annual income of $40,000, how big would your investments need to be to generate that?
Financial planners often recommend a withdrawal rate of about 4%. Any higher, and you're likely to draw down your principal and run out of money before you die (no more money = bad thing). That means that we need to divide our desired retirement income of $40,000 by 0.04 (4%). That gives us a figure of $1,000,000. You'll need a million bucks, properly invested, to generate a sustainable income of about $40,000 per year. Seems like a lot, doesn't it? Well, it is. And that's why so many people are going to be in trouble when they want to retire and don't have that much saved (thanks for dropping pensions, dumb corporations!).
Anyway, we're not done yet. That calculation assumes you're retiring now. We haven't adjusted the number for inflation yet. Historically, inflation has averaged about 3.1%, so we'll use that figure, although 4% would be more conservative. The next step is to estimate how far away that target date is: planning to retire in 5 years, or 25? We'll say you're 30, and plan to retire at a pretty standard age of 65. That gives you 35 years to save up, and 35 years of inflation to devalue your money. $40,000 is worth a whole lot more now than it will be in 35 years (and so is a million bucks).
To adjust for inflation, multiply the number you came up with (either the annual or total dollar figure) by 1.03135. Yup, 1.031 (our inflation adjustment) to the power of as many years as you have left until your retirement goal. This will tell you the value that will be equal to today's $40,000 in about 35 years. I get $116,443. If you want to retire 35 years from now with a standard of living comparable to today's $40,000 a year, you'll need about $116,000 a year then. That will take an investment portfolio of about $1,000,000 * 1.03135, or about 2.9 million dollars (and you thought you'd have a hard time getting even a million bucks!)
How to save that much? Well, you may not have to. You'll likely have some other source of income (Social Security, etc.) that will make up some of the difference. But in general, the rules of thumb for retirement investing are:
The good news is that if you do these things, you can actually reach goals like this thanks to the miracle of compounding.
If the numbers don't come out in your favor, you can try adjusting some of the values (your desired retirement income, the number of years to retirement, etc.) to see what you'll be able to afford based on what you've got. Don't get too creative with the inflation rate or the withdrawal rate. Remember that this is a rough estimate (we've left out a few things, like taxes). There are other financial calculators online that are even more detailed, but crunching the numbers yourself allows you to get a good understanding of where you're at compared to where you need to be.
Good luck!