So, you see, this stuff gets complicated—ergo, the quick-and-dirty formula. It’s based on the assumption that a 65-year-old can confidently withdraw 4 percent annually (taking into account inflation and taxes) from a reasonably well-diversified portfolio and not run out of money before he dies. Four percent isn’t a number plucked from the ether: It’s based on empirical research by an enterprising financial planner named Bill Bengen, who worked it out more than a decade ago. Bengen, a New Yorker now living outside of San Diego, analyzed seven decades of market behavior, which he broke down into 30-year chunks, the length of a typical retirement. He thus measured stretches when the markets were mostly up and stretches when they were down. No matter which way the market trended, Bengen concluded that a person of traditional retirement age could draw down an annual 4 percent from a hypothetical portfolio (60 percent stocks, 40 percent bonds, or thereabouts) and not worry about outliving the old nest egg. Today, the so-called 4 percent solution is all but universally accepted. You may expire clutching your last nickel or your kids may luck out and inherit a fortune, but whatever happens to the markets, if you stick with 4 percent, you won’t have to worry much about running out of money.
By applying the 4 percent solution, you can take an impulsive whack at how much you need by way of investments. If you think you need, say, $75,000 a year to live on, just multiply by 25 (one hundred divided by four) and you’ll find that your Number is $1,875,000. If you need a million dollars, then your Number is $25 million. So grab a pencil and fill in the blanks:
(a) Total up your invested assets (again, we’re assuming they’re well diversified, e.g., a 60-40 stocks-to-bonds ratio): ______.
(b) Multiply (a) by .04, and you get an idea of how much annual investment income you might reasonably withdraw each year: ______.
Feeling dizzy? Leave it at that and go lie down. But it doesn’t take much more effort to refine matters. Steps (a) and (b) take into account only your investment portfolio. You have other stuff to throw into the planning pot. Home equity, for instance. The value of your home is just sitting there, for now. You can tap into it with a reverse mortgage, or by downsizing. There may also be an inheritance in the offing, Social Security checks (presumably), and other income streams you haven’t yet added in. All these can be annualized to create a more comprehensive yearly snapshot:
(c) Add in the annual value of any home equity (to do this, divide your current equity by the number of years you expect to live—if, say, you’re 60, have $400,000 in home equity, and expect to live to 100, the annual value of your real estate would be $10,000): ______.
(d) Add any income, annualized, from any expected inheritance (total inheritance divided by the number of years you expect to live): ______.
(e) Add the amount of Social Security you assume you’re entitled to per year (for help, visit ssa.gov): ______.
(f) Add any expected annual pension benefits: ______.
(g) Add any remaining annual income you expect from part-time work or other sources: ______.
(h) Total (b) through (g), and you arrive at how much you can safely spend each year to get through the rest of your New York life: ______.
But here’s the rub. The man who helped devise this worksheet is a respected Cambridge, Massachusetts, financial planner—he actually prefers to be called a “life planner”—named George Kinder, a most unlikely choice to provide a shortcut to anything. Kinder believes passionately that you should think beyond money (the way Marvin Tolkin does) before you build a financial plan that truly fits your need for money and satisfaction. To do this, Kinder says, resharpen your pencil, stare at line item (h), and focus on expenses. You need to multiply line item (h) by what I’ll call the Satisfaction Factor. Say you dream about a time when you could write your Great American Novel every morning and devote the rest of the day to volunteer work. This life, or some variation of it, will generally require less money than what you spend now: You won’t have commuting-to-work costs, you’ll need to buy fewer spiffy suits and dressy shoes, and you probably won’t have to shell out for things like maintaining a boat or mortgages you’ll have either paid off or gotten rid of by jettisoning what isn’t integral to the dream. What’s a reasonable Satisfaction Factor? Eighty percent of your current expenses? Seventy percent? Sixty percent?
The conclusion here should be obvious: An unexamined life may or may not be worth living—but it’s almost always more costly than an examined one, even in New York.
Or, to put it another way, the tool you most need to figure out what it will take isn’t a quick-and-dirty formula, it’s a mirror. No matter that you’re time-pressed or a spendthrift. You need to take a good long look at yourself—and not just at your reflection in a store window.