The key to retirement income? It’s not a number

A retirement plan isn’t a single goal—it’s a collection of them. Each reflects something different about the life you want to live. In our research paper Vanguard’s Principles for Retirement Income, we explain why the first step toward transforming your savings and investments into retirement income is determining your goals and understanding the challenges you could face in achieving them.

As you plan, keep in mind that goals often evolve over time. Reassess them periodically and update your plan as needed.

Retirement goals fall into three categories:

• Needs are essential expenses such as housing, food, utilities, transportation, and health care. They are what you need to maintain your standard of living.
• Wants are lifestyle expenses such as travel, dining, hobbies, and entertainment that increase your day-to-day enjoyment but can be trimmed if necessary.
• Wishes are more aspirational goals such as supporting family or giving to charity. They should be considered after needs and wants.

For each of these categories, estimate how much you are likely to spend annually so that you can picture what your retirement expenses might look like. Be sure to include how much you’ll need as a contingency fund for unexpected expenses that can crop up such as medical costs, long-term care, or major home repairs. 

Retirees’ spending can vary widely, shaped by location, health care needs, and lifestyle. In the first years of retirement, retirees spend about 80% of their pre-retirement income each year. For married couples, this translates to average spending of about $72,500.¹ Averages provide a good starting point. But creating a stronger plan starts with capturing your actual expenses for housing, food, clothing, health care, taxes, and other essentials.

“Putting your purpose at the center of your plan helps you clarify your goals, account for key expenses, ensure your plan is sustainable, and prepare for the risks that could derail it,” said Boris Wong, a Vanguard investment strategist and lead author of the paper.

In practice, putting purpose first means deciding which expenses are essential and which are flexible. This is more than an organizational exercise. It helps you determine which expenses should be covered by guaranteed income and which can be adjusted depending on market, economic or other changes.

If there is one figure worth understanding deeply, it’s your portfolio withdrawal rate. That is the percentage of savings you withdraw from your portfolio each year to cover expenses beyond what reliable income sources will pay for. You can calculate it this way:

Vanguard’s retirement analysis shows that a withdrawal rate of roughly 3.5%–4% can support retirement for 30 years or more for many households. If your withdrawal rate is too high, it can significantly reduce how long your money will last. If it’s too low, you may miss out on enjoying your retirement as much as you could. 

Life is unpredictable. You can never be sure whether inflation will rise or fall, or if a visit to the emergency room will leave you with a big medical bill. But you can lessen the chance that events like these will throw your retirement off course. Incorporating an inflation estimate into your spending projections and holding a diversified portfolio of stocks, bonds, and cash can help you cope with inflation, for example. Your contingency fund can cover unexpected expenses.

One surprisingly big risk is the number of years you will spend in retirement. People are living longer, healthier lives. That’s a positive change, but it means that your retirement income likely will need to last for many years. Our calculations show that outliving your savings can pose a bigger risk than weak investment returns.

Under both typical and poor market conditions, a diversified portfolio of $1 million with 2% annual inflation adjustments and a 6% withdrawal rate starting at age 66 can last approximately 20 years. If retirement extends to 30 years, however, savings could run out—under either market scenario.