Will your employees have enough to retire?

A common retirement income replacement benchmark is 80%. In other words, a typical retiree at age 65 will need 80% of his or her pre-retirement income in order to maintain a similar lifestyle in retirement.

Having their employees reach an adequate income replacement ratio is important to our clients for a variety of reasons.  Many simply believe that helping their employees achieve a secure retirement is the right thing to do.  Some also feel that it lowers turnover and is good for employee morale when employees at retirement age are prepared for and able to retire.

Let’s evaluate your retirement program’s effectiveness at obtaining this 80% replacement goal!  To do so, we will look at the three components of retirement income:  Social Security, employer retirement benefits (e.g. match, profit sharing or pension), and employee savings (e.g. 401(k), 403(b), or 457(b)). Below we will look at a sample participant earning $50,000, who is employed from age 30 to 65.  The below calculation will not be accurate if normal retirement age is less than 65.

Step 1 – Social Security
We calculated the estimated social security value for this sample participant.

Step 2 – Defined Benefit Pension (if applicable)
Enter the percentage of income that will be replaced by your pension formula for a career employee (e.g. 20%).

Step 3 – Employer Defined Contribution
Take the matching contribution and profit sharing contribution as a percentage of compensation and multiply by a factor of 3.4. (e.g. 5% contribution multiplied by 3.4 equals 17% of income replacement.)

Step 4 – Employee Defined Contribution
Take the average annual employee contribution as a percentage of compensation and multiply by a factor of 3.4. (e.g. 10% contribution multiplied by 3.4 equals 34% of income replacement.)

Step 5 – Income Replacement
Add the above four different components of retirement income and see how your employees compare to the target of 80%. If they are falling short, look to strategies that can improve participation in your plan (automatic enrollment, easy enrollment, employee education, etc.)

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7% Pre-Retirement Investment Return; 5.5% Post-Retirement Investment Return; 3% Inflation and Wage Increase; Live to Age 95; Social Security Income Replacement based on Social Security Online Quick Calculator.