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The Basic Annuity Model                                                                                                                                                      

 

The most common method in calculating the amount of money you will need for retirement is the Basic Annuity Model.  It is usually calculated on a pre-tax dollar basis.    The Basic Annuity Model is the least conservative of the three models because it is based on your retirement account having a zero balance at the end of your life expectancy.  There is substantial risk with this because nobody knows exactly when they will pass away.  There is a chance you could out live your money. 

 

The model requires you to estimate how many years you will be in retirement.  This is the number of years from the age you retire until your death.  The average life expectancy for a 60 year old American today is 80 years of age; for a woman it is 84.  This does not mean that if you are 60 you only have 20 or 24 more years to live.  It means that statistically, 1/2 of the individuals age sixty will have passed away by then.  For this reason you need to look at your family health history, and your individual health / lifestyle to estimate your individual life expectancy.  You should consider adding at least 5 years to your estimated life expectancy to minimize the risk of out living your money.
 
 

The step used in the Basic Annuity Model

 

The following steps are used to calculate the amount of money required to fund your entire retirement along with how much you need to save per month.

 

Step 1.  Calculate your Wage Replacement Ratio (WRR) today using one of the two methods identified earlier (top-down or budgeting).

 

Step 2.  Determine gross dollar needs based on your WRR.

 

Step 3.  Determine your net dollar requirement by reducing your the results from step 2 by your Social Security benefits and any other savings you currently have. 

 

Step 4.  Inflate your net dollar requirement in step 3 to your retirement age by the inflation rate to determine the first annual retirement payment.

 

Step 5.  Calculate the amount of money that will be required to maintain the annual payment requirement in step 4 over the full retirement life expectancy.

 

Step 6.  Calculate the amount of money needed to be invested per year so that the total amount from step 5 is accumulated by retirement age.

 

Since the our goal is to help and educate people, we have created an excel model that you can use for free.   Just click on the link on the right 

The Financial Swami has made it simple for you; just use the link below to pull up a worksheet that will do the math for you.

 

Basic Annuity Model Worksheet

 

 

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