What’s Your Retirement Formula?

Retirement calculators

Dividends Diversify is glad to have many smart contributors.  Because of that, I want to check your pulse on a retirement topic.

I have run across many retirement calculators. These retirement calculators tell us if we have enough money to walk away from the rat race.

Retirement calculatorsPin

And, pursue our dreams of financial independence.  I want to look at a few of them.  In addition, I want to see what you think. After all, not saving for retirement can lead to serious financial troubles later in life.


First of all, why did I write this article?  Because I read a recent Fidelity report on retirement The report stated that retirement readiness is improving.  This makes sense to me.

Financial markets are at all-time highs.  In addition, real estate prices have mostly recovered from the great recession.  Finally, unemployment is at all-time lows.  Seems like this is a good mix of factors to improve our long-term financial health.

However, the article goes on.  Opposite the first point, the report says “half of the savers are at risk of not fully covering essential retirement expenses.”  They even have a calculator to show you how you measure up.  There are a lot of these retirement calculators.  Some are better than others.


However, I always liked the simple retirement formulas because of their ease.  They are handy “rules of thumb.”  Most of all, easy to calculate and easy to understand.  Because they help us quickly gauge progress on your money management.

Here are three to consider to check your cash flow for retirement.  In addition to a few of my thoughts on each one.

80% of Earnings

This retirement formula says you need 80% of your pre-retirement income.  Why 80%?  Because some of your expenses will decrease in retirement.  Commuting costs and work clothes are a couple that comes to mind.  College tuition bills should also be done with.  In addition, you won’t have to save for retirement anymore.

This one is probably the easiest to understand.  You do not have to know your expenses.  Just what you are earning.  However, it assumes you spend what you make.  And, this may or may not be a good assumption.

The 4% Rule

Research shows that 4% can be drawn from a diversified investment portfolio without depleting it.  If that is your financial goal planning for retirement? And, the 4% withdrawal can be increased for inflation each year.

This rule is a classic.  It has been backtested over many years and under many different market conditions.  It is not foolproof.  However, it suggests a diversified investment portfolio will last at least 30 years if you only take out 4% each year adjusted annually for inflation.

Passive Income Rule

The first two methods are popular with professional financial advisers and the mainstream media.  On the other hand, the passive income rule seems more popular in the financial independence community.

It simply states you need a passive income stream to cover at least 100% of your annual expenses.  The definition of passive income can be debated.  Probably included are income streams from dividends, interest, and real estate rentals.

This is my personal favorite.  Why?  Because my financial goals include building a passive income stream from dividend growth stocks.  The income from an investment portfolio also tends to be a lot more stable than the stock market values that produce the income.  The stock values can be subject to high amounts of stock market volatility.  However, dividend payments are mostly stable.


There you have a few rules of thumb for judging your ability to retire.  The ability to execute your financial plan for independence.  Now I would like to hear from you.

  • Do you use any of these rules of thumb for your own planning?
  • If not, how will you measure and know when you are able to leave the rat race?
  • In addition, what other forms of passive income am I missing for the passive income rule?
  • What are your long-term money goals in retirement?

Please leave a comment and let us all know.


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16 thoughts on “What’s Your Retirement Formula?”

  1. My biggest rule would be no debt whatsoever including a mortgage. Ofcourse I would want the income from my retirement portfolio to cover most if not all of my expenses. I wrote about retirement calculators in the past and the one I liked best was from calculator.net: http://www.simplemoneyman.com/best-401k-calculator/

    I don’t plan to live a very extravagant retirement, but at the same time I don’t plan to retire significantly early either. My fear of retiring too early is becoming somewhat lazy and unhealthy. 🙂

    • Hi SMM. No consumer or mortgage debt certainly helps a lot when planning for retirement. Thanks for the link to your favorite retirement calculators you have tested. There are a lot of good ones. Tom

  2. Hey Tom,

    Lily and I are behind in terms of making these calculations. We want enough income to cover a relatively comfortable lifestyle, assuming a paid-off house. However, there are variables we haven’t sat down to fully account for, such as Social Security, her traditional pension, and even the possibility of a reverse mortgage.

    So, right now, we concentrate on saving. We still have work to do in terms of ironing out the numbers for retirement.


    • I think the best thing you can do in this phase Miguel is track your actual spending if you don’t already. Then, when it comes to using one of these formulas you have the data to make it realistic and be comfortable with your decisions. Tom

  3. We are kind of using a two pronged approach right now. Employer Retirement accounts holding funds and we are building our brokerage account with dividend stocks.

    The bottom line is we are prioritizing saving and deploying money in the accumulation phase and documenting our spending each month to have a very detailed plan for the future.

    • Mr. DS, As I mentioned to Miguel, documenting our spending really helped me. It gives you much more confidence whatever formula or calculator you ultimately use. Seems like you two are way ahead of the game in your thinking/planning. Tom

  4. Hi Tom –

    Good points raised. I’m 33 and don’t plan to F.I.R.E. ever (at least not right now). I intend to do something similar to what you did after a stint in corporate America: teach.

    That said, the strategies and percentages, etc. you’ve highlighted can be useful depending on the path or outcome one is looking to obtain. Our ideal path is to not touch our principal or at least delay it as long as possible.

    On the calculators, there are many good ones. For tracking and viewing automatefd results, I like Personal Capital’s.

    Lastly, I came across another site in the community that tracks passive income per hour. I need to find it again, but it effectively takes the total passive income earned per month and breaks it down into a hourly (24) pay rate. I started to do the same. – Mike

    • Hi Mike, Personal Capital is still on my to do list to test for myself and to understand it better when others talk about it in the community. Let me know if you ever want thoughts on college level teaching. Tom

  5. I agree with the advice to set a baseline by tracking expenditures. My yardstick was the 4% rule, however no calculator can foresee what the future holds. Unforeseen expenses such as elder care, raising a grand child or a major medical expense (even with insurance) will put a dent in the best laid plan. Most calculators can handle one exception. If you overshoot your accumulation goal you can handle two or three. The issue you raise is that most people would be wiped out on the first setback.

    • You bring up a good point SR. The question of how much margin of safety one needs beyond the baseline of predictable future expenses. I’m not sure I have the answer to that. I have heard one rule of thumb that relates to the passive income formula. That is 2-3 times baseline expenses in passive income to account for the unpredictability of either the income or expense side. That can lead to a really big number in assets to support the passive income of course. At the end of the day, I guess it comes down to personal risk tolerance. If indeed the individual making the decision is thinking about it in the manner you and I discuss. Appreciate the thoughtful comment. You always have a way of getting at important issues. Tom

  6. I like the passive income rule or the “never touch your principal” rule. I wouldn’t feel comfortable drawing down my nest egg by 4% a year. And if it’s to last 30 years and let’s say I ‘FIRE” at 40, that’s assuming I live until 70. Hopefully, I will live longer than that.

    The 80% of your income has a large assumption- especially that you spend 80% of your income minus housing (assuming house paid for in retirement) in retirement!

    • Hi GYM, Once I started investing in dividend stocks, I moved to the passive income rule too. Before that, all I had heard of were the other two. They kind of go together. Tom

  7. Tom, very good summary. I like the 4% rule. As you mentioned, this rule has been there for many years. To be safe, I usually lower it to around 3% for planning purpose.

    80% of earning rule may not apply to those extreme savers. It’s still a good ballpark estimate.

    • I’m a conservative planner too Helen. Nice to have room for unexpected costs or under performing investments. That little extra operates kind of like an emergency fund. Tom

  8. Hi Tom. For us, keeping track of our expenses for the last couple of years (as you mentioned above) has helped identify the total amount of after-tax money we need on a yearly basis.

    Using that number, I have worked backwards using the 4% rule (and it’s more conservative cousin, the 3.5% rule), to identify a range for the total amount of savings/investments we will need.

    At this point, we are far enough away that the analysis is more academic than anything else. However, as our investments continue to grow, we will be able to fine-tune our approach. My goal is to “never touch the principle“ and live off of the passive income, and I am hoping for a total income return rate of around 3.5 to 4% including interest, dividends, and real estate.

    One other point has repeatedly occurred to me as I have developed my financial/investment plan Most of the analysis I have seen invorporates a significant amount of data from a falling interest rate environment, I’m not sure whether the scholarly work on withdrawal rates that has been done to date will have as much predictive value in our current rising rate environment, at least for the near term (next 10 years or so).

    Thanks as always for another thought provoking post !

    • Yes. Interesting you bring up interest rates FIREman. I’m not exactly sure how to wrap my head around that as it relates to these rules. Regardless, it sounds like you have given your personal situation a lot of thought as I would expect. Tom

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