Figuring out how much money you need in retirement can seem overwhelming. There are many variables to consider – government benefits, expenses, inflation, home ownership, and rental costs. The list goes on and on.

But you can get 80% of the way there by taking the time to get a sense of where you are today and what things may look like in the future.

To do this, we need to answer 4 questions

1. How much income will I need in retirement to cover costs?
2. How much income can I expect to receive from all the different sources in retirement?
3. Subtract 1 from 2, is there a shortfall or a surplus of income?
4. If there’s a shortfall, what amount of assets will cover the shortfall

Let’s get into answering these questions

Question 1: How much income will I need in retirement?

There are a few methods you can use to calculate your expenses and determine how much income you will need in retirement. Such as:

1. Go line by line through your bank statements
2. Focus on the big costs (mortgage, rent, home maintenance, insurance)
3. Use a percentage method

We wrote an entire article detailing each of these methods to calculate your retirement expenses

Where people get tripped up is the focus on the fact that their expenses change and unexpected things happen. Therefore it’s impossible to know your expenses so you shouldn’t even try.

I won’t disagree that you can’t know exactly how much your expenses will be. But you can get a rough idea, and that’s worth a lot more than not knowing at all.

Question 2: How much income will I have in retirement?

Now that you have an idea of your retirement expenses you need to determine your income in retirement.

Your retirement income can come from multiple different sources, whether traditional retirement income options or non-traditional.

The detailed article explaining the different retirement income sources can be found here. Below is a brief summary of the different income sources.

The traditional income sources during retirement are:

1. Canada Pension Plan
2. Old Age Security
3. Employer Pension
4. Selling Assets
   • Investment Accounts (RRSP, TFSA, Non-Registered)

The non-traditional income sources during retirement are:

1. Part-Time Work
2. Renting out your basement
3. Moving in with your adult children
4. Accessing your home equity

If you’re unable to fund your retirement using traditional sources that’s when you may look to alternatives.

Question 3: Is there a shortfall or surplus of income?

If your income is greater than your expenses that’s excellent news. That means you can retire!

If your expenses are greater than your income we’ve got to do some more work to figure out how you will fund this deficit in retirement.

Question 4: How do I fund the shortfall of income?

There are some rules of thumb that you can use to know how much money you need to meet the shortfall of income.

None of these rules are set in stone – they are just broad suggestions that capture the majority of people’s needs.

Rule of 25

The rule of 25 states that you need 25x of your annual shortfall in investments to retire.

If you needed $50,000 in retirement income and were receiving $20,000 from Government benefits your annual shortfall is $30,000.

The rule of 25 would suggest that you need $750,000 to make that $30,000 per year shortfall ($30,000 x 25 = $750,000)

Previously this used to be called the rule of 20 because interest rates used to be higher (maybe not so much now in 2023!). Some even suggest a rule of 30 is more appropriate if there are expected healthcare costs.

The 4% Rule

The 4% rule states that you should withdraw 4% of the value of your investments each year to fund retirement.

If you had $500,000 of investments this would suggest you could withdraw ~ $20,000 each year.

The “It Depends” Rule

While the Rule of 25 and the 4% rule get you thinking about retirement and how much you might need it doesn’t do a good job of taking into account individual circumstances.

For example, these rules wouldn’t consider your house as an asset, only your investment portfolios.

Most people’s homes are their biggest assets at retirement, so if home equity needs to be accessed to fund retirement it should be considered.

These rules also assume you’ll be retired for 25+ years and are designed to achieve a 90% (or higher) success rate for retirement. But some people may decide to continue to work or consult part-time until they’re 70, which needs to be factored in. Working part-time is one of the best ways to bolster your retirement income.

What I’m trying to get at here is that everyone’s circumstance is different and an equation is not going to solve these questions by themselves. They can be useful tools, but to truly get a picture of whether you can retire requires the context around the situation and appropriate use of these rules of thumb.