The main problem with rules-of-thumb is that they are typically generic and assume that every situation calls for the same solution. Many financial guidelines start with good intentions, but often they are misinterpreted or don’t consider all the relevant information.
The following rules should be tossed-out or discussed with a financial planner who can help you apply them properly:
1. You only need 75% of your pre-retirement income to live comfortably in retirement
Unless you plan on cutting back on travel and recreation in retirement, you will likely need the same amount or more to live on. The first 10 to 15 years are likely to be the most active ones in retirement, so you need to plan on spending at least the same amount as while you were working.
2. To determine the right percentage in stocks, subtract your age from 100
This rule is severely flawed because it fails to look at the whole picture. For example, if you are 50 years old and apply this rule, you should have 50% in stocks (or stock mutual funds). But what if you plan on working 20 more years or you will have a strong pension? If that is the case then this rule would give you a result that may be too conservative. It’s very important to also consider life expectancy, the impact of inflation, and risk tolerance in determining the right mix of investments.
3. You need to save $1 million to retire comfortably today
In fact, the number you need to save is based mostly on your annual expenses (what you spend) in retirement. If you can live on $40,000 a year (in today’s dollars) from investments plus other income from pensions or Social Security, $1 million might be a good number. This is based on a better rule of thumb that does apply in many situations; the concept of limiting your annual spending from investments in retirement to 4% of the principal balance.
You should run your own numbers through a retirement calculator or contact a financial planner to come up with accurate targets for your personal situation.