Dubai: Many people struggle to save anything for retirement, so the idea of saving too much may seem absurd.
However, there is a movement known as ‘Financial Independence, Retire Early’, or FIRE, that promotes saving enough to gain control over how you spend your days long before typical retirement age.
Some FIRE bloggers retired in their 30s from well-paying jobs by dramatically cutting their expenses and saving 50 per cent or more of their incomes.
Saving for a 20-year retirement is difficult enough. Planning for one that lasts 50 years or more often requires extreme frugality both before and after retirement, as FIRE adherents try to make their money last.
Some people save prodigious amounts so they can retire early or because they’re worried they won’t have enough for a comfortable retirement.
But aggressive saving can have significant and sometimes unexpected costs, which is why it’s important to strike the right balance between saving for the future and living your life today.
While saving too much might not seem like a bad thing, it can actually lower your quality of life during your working years and cause undue financial stress.
These are some of the reasons why you may be saving too much and how to strike the right balance.
#1 reason you may be saving too much: Not personalising retirement planning
One major reason matter experts give that you may be saving too much is that retirement planning has become too generalised.
With the advent of online calculators and personal finance software, tech providers have built too many general assumptions into their technology.
However, not all assumptions work for all people. Everyone has a different life situation that cannot be easily packaged into a smartphone app or represented by a few numbers that you enter into an online calculator.
For example, it’s unlikely that any automated program will be able to accurately predict how much of your pre-retirement income you will need, otherwise known as replacement rate, and what the return rates, inflation, and spending will be throughout your retirement years.
#2 reason you may be saving too much: Overestimating your replacement rate
Overestimating your replacement rate can cause you to save much more than you need for retirement.
Simply put, the retirement income replacement rate is a percentage of the pre-retirement income you will need to maintain your standard of living in retirement.
The perils of saving too much for retirement include causing unnecessary financial stress, such as struggling to pay your home loans or for one of life’s unexpected and costly emergencies.
A general rule that is often cited by researchers is to estimate that you will need 80 per cent of your current income to maintain a comfortable lifestyle in retirement.
However, financial planners are of the opinion that replacement rates vary when a number of other factors are also considered, including different income levels and life expectancy.
Several research has concluded that the actual range of replacement rates is between 54 per cent and 87 per cent.
If you are planning for 80 per cent and really only need 55 per cent, you’ll likely end up saving a sizable amount of money that you probably won’t need.
#3 reason you may be saving too much: Incorrect housing cost forecasts
Where you live during retirement is one of the biggest costs you will face. How you plan for and manage this aspect of your life will have a big impact on how much you need to save for retirement.
Spending on housing in retirement is extremely difficult to estimate. Most retirees will spend most of their retirement in their own home.
If you plan to stay in your home as long as possible, your costs will be lower than moving elsewhere. This is especially true if your mortgage is paid off.
The cost of housing ranges from 30.7 per cent to 35.9 per cent of annual income, multiple global statistics show.
Assuming your household earns Dh150,000 a year and spends 30 per cent of that annually on housing, you would reduce your costs by about Dh45,000 in retirement if your home loan is paid off.
If you factor that in over 30 years in retirement, you’ll need to save a lot less money than you had planned.
So how do you know if you are saving too much or not enough? Taking these steps will help you save the right amount.
#1 step to take to save the right amount: Figure out your retirement timeline
The first step is to determine how far from retirement you are. If you are more than 10 years out, it’s likely best to save a generic percentage.
That’s because the further away from retirement you are, the harder it is to get the numbers exactly right. Experts often recommend 10 per cent to 15 per cent.
If you are within 10 years of quitting work for good, you can do some more detailed planning that will shape how much you need to save in the years just before you retire.
Financial planners add that the easiest starting point is to assume the same standard of living in retirement as in one’s working years.
Chances are, most will not spend that much money since they will no longer have to save for retirement and also have certain costs like transportation go down significantly.
#2 step to take to save the right amount: Don’t use the standard replacement rate
Don’t just use the 80 per cent of income as a replacement rate.
Calculate how much you spend now, subtract expenses that you will no longer have, and add in new expenses that will occur in retirement. For example, you may plan to relocate or, in the early years, travel more than you currently do.
Once you have a realistic estimate of expenses, you can use that to figure out how much you need to save to be able to pay for them.
#3 step to take to save the right amount: Plan for healthcare costs, tally retirement income
Research and create plans for healthcare expenses. Since this is the biggest unknown in your budget, understanding your options will help you estimate the right amount to save.
Research long-term care insurance and in-home care costs. Finally, tally up what you expect to receive from pensions, if you have one. The more you have from these resources, the less you will need to save in retirement accounts.
Planning how much you need for retirement is not an easy task. There are many variables to consider. With a little extra time and effort, you can figure out the amount to save that’s right for you.
And keep in mind that if it turns out that you’re saving too much, you could consider retiring sooner or using some of that money now instead. Make sure you’re also saving enough for emergencies.