Planning for retirement, usually a major financial concern for those over age 40, has become even more prevalent now that the huge postwar baby boom generation is moving through middle age.

Various surveys indicate that preparing for retirement already ranks as America's primary financial goal. T. Rowe Price's own survey of mutual fund shareholders showed that 40% ranked retirement planning as their most important financial objective, and two-thirds considered it "very important."

The studies reveal that Americans not only look forward to retirement, but many also expect to retire early. In addition, retirees are apt to live longer as improvements in health care extend life expectancy. People retiring at age 60 today are expected to live another 25 years, or more than half again the length of their working careers. This makes the challenge of accumulating enough money for retirement even more difficult, since these savings may have to last longer and there will be less time to earn them.

While it's clear that retirement planning has become a leading financial goal, the big question is whether people will be financially prepared to retire when they want to.

• What It Takes
• Sources of Income for Retirees (based on 2001 data)
• The Baby Boomers
• Impact of Inflation on Purchasing Power of $1,000
• The Importance of Planning Ahead

What It Takes
Pension and Social Security benefits will not be adequate for people who expect to maintain their standard of living after retiring. While some expenses are generally lower in retirement, financial planners and government officials estimate that individuals need 60% to 80% of preretirement income to maintain current living standards in retirement. However, the appropriate amount can vary widely depending on personal circumstances.

The combination of pension and Social Security may replace only about 60% of preretirement income, so the balance must come from personal savings, supplemented perhaps by part-time work. Further, the higher your annual earnings, the smaller the proportion that Social Security generally replaces, making your other sources of income all the more important.
 

Sources of Income for Retirees (based on 2001 data) Source: Social Security Administration, Income of the Aged Chartbook, 2001. Percentages based on those who were at least age 65 in 2001.

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The Baby Boomers
While personal savings are a key component of just about anyone's retirement plan, they may be particularly important for the baby boom generation, which begins reaching retirement age in the year 2012. Social Security will contribute proportionately less of this group's retirement income.

Starting in the year 2000, the age at which full benefits are payable was raised for anyone born after 1937. For those born in 1960 or later, the retirement age to receive full benefits is now 67. Benefits are still available at age 62, but they are permanently reduced by 30, compared with a 20% cut for those retirees born in 1937 or earlier.

Even with these scheduled changes, there is concern as to whether Social Security will be able to provide baby boomers with the full benefits due them. Today there are just over three workers paying taxes for every retiree receiving benefits. Within 40 years, there will be only two workers per beneficiary.

The trend in company retirement plans is also placing more responsibility for retirement planning on the individual. In recent years, companies have increasingly shifted from defined benefit pension plans, which guarantee workers a predetermined retirement income, to defined contribution plans, where the employer may match the employee's contributions to a tax-sheltered retirement plan. The plan's benefits will depend on how much the employee contributes and how successfully he or she invests the money in the plan.

Individuals who change jobs frequently may be eligible for substantially less in corporate retirement benefits than those who have extended careers with one or two firms. A key reason many of today's retirees are doing well is because of long careers with one employer.
 

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Impact of Inflation on Purchasing Power of $1,000 Average Annual Rate of Inflation Years 3% 4% 5% 5  $863 $822 $784 10   744   676   614 15   642   555   481 20   554   456   377 25   478   375  295

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The Importance of Planning Ahead
The bottom line is that you can't rely entirely on the government and your employer to finance your retirement program. A significant portion of your retirement income will come from savings and investments. You can improve the chances of reaching your retirement goal by starting a plan early and sticking with it.

The earlier you begin saving for retirement, the less burdensome the task, because your money will have longer to work for you.

To accumulate a $200,000 nest egg, for example, a person 20 years from retirement would need to invest about $3,900 annually, assuming an 8% annual return (compounded monthly) in a tax-sheltered account. If the individual were only 10 years from retirement, however, an annual investment of about $12,500 would be needed—an unrealistic target for most of us.

Another reason for starting early is that you will be better prepared to cope with one of the greatest threats to retirees—inflation. Once you retire, your income must continue growing to keep pace with inflation; otherwise, your purchasing power and your standard of living will decline.

Even at a 3% inflation rate, a dollar is worth only $0.55 after 20 years. An individual would need an income of more than $36,000 in 20 years, for example, to have the same purchasing power that $20,000 has today. Social Security benefits are currently indexed to inflation, but most pension plans are not. As a result, your savings would have to offset the potential loss in purchasing power of a fixed pension.


While preparing for retirement is a formidable task, it can be accomplished successfully with considerable planning and discipline.


Charts in this report are for illustrative purposes only and are not intended to represent the performance of any specific security.


 

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