• What Is a Retirement Savings Gap?
• Why Does a Retirement Savings Gap Occur?
• How to Use a Retirement Savings Gap Calculator
• Retirement Savings Gap Calculator Example: Step-by-Step
• Step 1: Define Your Retirement Goals
• Step 2: Calculate Future Value of Current Savings and Contributions
• Future Value of Current Savings
• Future Value of Annual Contributions
• Total Retirement Savings at Age 65
• Step 3: Adjust Desired Annual Income and Social Security for Inflation
• Step 4: Calculate Annual Retirement Income Needed From Savings
• Step 5: Calculate How Much Savings Are Needed to Cover Retirement Income
• Step 6: Determine the Retirement Savings Gap
• What If You Have a Retirement Savings Gap?
• 1. Increase Contributions
• 2. Delay Retirement
• 3. Adjust Retirement Spending
• 4. Improve Investment Returns
• 5. Maximize Social Security or Pensions
• Tools and Resources for Retirement Gap Calculations
• Conclusion

Retirement Savings Gap Calculator Example: How to Calculate Your Shortfall

Planning for retirement can be daunting, but one of the most important aspects is understanding if you’re saving enough to maintain your desired lifestyle once you stop working. A retirement savings gap occurs when the amount you have saved for retirement is less than what you actually need. Using a retirement savings gap calculator (see our pension lump sum calculator example for comparing lump-sum strategies) can help you identify this shortfall and motivate you to adjust your savings or investment strategy.

In this post, we will explore:

– What a retirement savings gap is
– How to use a retirement savings gap calculator
– A step-by-step example of calculating your retirement savings shortfall
– Tips on what to do if you have a gap

—

What Is a Retirement Savings Gap?

Your retirement savings gap is the difference between the amount of money you will need during retirement and the amount you have saved or projected to save by retirement age. This gap indicates the shortfall you must address to avoid running out of money later in life.

Why Does a Retirement Savings Gap Occur?

Some common reasons include:

– Underestimating future expenses
– Overestimating investment returns
– Not saving enough consistently over time
– Unexpected economic changes or emergencies

Identifying the gap early allows you to take corrective measures like increasing contributions, delaying retirement, reducing expenses, or finding additional income sources.

—

How to Use a Retirement Savings Gap Calculator

A retirement savings gap calculator typically requires the following inputs:

– Your current age and planned retirement age
– Current retirement savings balance
– Expected annual contributions until retirement
– Desired annual income after retirement (adjusted for inflation)
– Estimated Social Security or pension income
– Expected rate of return on investments both before and after retirement
– Life expectancy or planning horizon

Based on these inputs, the calculator estimates how much you will have accumulated by retirement and compares it to your projected retirement expenses. The difference is your savings gap or surplus.

—

Retirement Savings Gap Calculator Example: Step-by-Step

Let’s walk through an example of calculating your retirement savings gap using hypothetical data.

—

Step 1: Define Your Retirement Goals

– Current age: 40
– Planned retirement age: 65
– Life expectancy: 90 (planning horizon of 25 years after retirement)
– Current retirement savings: $150,000
– Annual contribution: $10,000 per year until retirement
– Expected rate of return before retirement: 6% per year
– Expected rate of return during retirement: 4% per year (more conservative)
– Desired annual retirement income: $60,000 (in today’s dollars)
– Expected Social Security/Pension income: $20,000 per year (in today’s dollars)
– Inflation rate: 2% per year inflation adjustment

—

Step 2: Calculate Future Value of Current Savings and Contributions

You will accumulate wealth in the next 25 years (from age 40 to 65). Incorporating the annual contributions and investment returns:

Future Value of Current Savings

[
FV_{text{current savings}} = 150,000 times (1 + 0.06)^{25}
]

[
FV_{text{current savings}} = 150,000 times (1.06)^{25} approx 150,000 times 4.29187 = 643,780.50
]

Future Value of Annual Contributions

Annual contributions grow with compound interest every year. This is a future value of an ordinary annuity calculation:

[
FV_{text{contributions}} = 10,000 times frac{(1.06)^{25} – 1}{0.06}
]

[
FV_{text{contributions}} = 10,000 times frac{4.29187 – 1}{0.06} = 10,000 times 54.8644 = 548,644.00
]

Total Retirement Savings at Age 65

[
FV_{text{total}} = 643,780.50 + 548,644.00 = 1,192,424.50
]

So, by age 65, you will have approximately $1.19 million saved.

—

Step 3: Adjust Desired Annual Income and Social Security for Inflation

Because inflation erodes purchasing power, you need to adjust your desired retirement income and Social Security income to reflect their future value at retirement.

[
FV = PV times (1 + text{inflation rate})^{text{years}}
]

– Desired Income at 65:

[
60,000 times (1.02)^{25} = 60,000 times 1.64 = 98,400
]

– Social Security Income at 65:

[
20,000 times (1.02)^{25} = 20,000 times 1.64 = 32,800
]

—

Step 4: Calculate Annual Retirement Income Needed From Savings

Your savings need to cover the shortfall after Social Security:

[
98,400 – 32,800 = 65,600
]

You will require $65,600 per year from your retirement savings.

—

Step 5: Calculate How Much Savings Are Needed to Cover Retirement Income

You want to fund $65,600 per year for 25 years after retirement, with a 4% expected return during retirement.

Use the Present Value of an Annuity formula:

[
PV = PMT times frac{1 – (1 + r)^{-n}}{r}
]

Where:

– (PMT = 65,600) (annual withdrawal)
– (r = 0.04) (annual return)
– (n = 25) (years in retirement)

Calculate:

[
PV = 65,600 times frac{1 – (1.04)^{-25}}{0.04}
]

[
(1.04)^{-25} = frac{1}{(1.04)^{25}} = frac{1}{2.666} = 0.3751
]

[
PV = 65,600 times frac{1 – 0.3751}{0.04} = 65,600 times frac{0.6249}{0.04} = 65,600 times 15.6225 = 1,024,279
]

You will need approximately $1,024,279 saved by age 65.

—

Step 6: Determine the Retirement Savings Gap

Recall from Step 2 that you are projected to have $1,192,425 saved by retirement.

[
text{Savings Gap} = text{Needed Savings} – text{Projected Savings} = 1,024,279 – 1,192,425 = -168,146
]

Since this number is negative, it means you have a surplus of $168,146.

You are on track to meet and exceed your retirement income goal based on the assumptions provided.

—

What If You Have a Retirement Savings Gap?

If the calculation had shown a positive number (shortfall), here are some ways to close the gap:

1. Increase Contributions

Boost your annual contributions. Even an extra $1,000 – $2,000 a year can make a large difference over decades.

2. Delay Retirement

Work a bit longer than planned, even by 2-3 years, to allow your savings to grow and shorten the retirement period.

3. Adjust Retirement Spending

Reduce your retirement lifestyle expectations or plan for lower annual withdrawals.

4. Improve Investment Returns

Consider rebalancing your portfolio for higher expected returns but be mindful of increased risk.

5. Maximize Social Security or Pensions

Understand your benefits and strategize on the optimal time for claiming Social Security.

—

Tools and Resources for Retirement Gap Calculations

There are many online retirement savings gap calculators that automate these complex calculations. Some reliable tools include:

– Vanguard Retirement Nest Egg Calculator
– Fidelity Retirement Score
– T. Rowe Price Retirement Income Calculator
– Bankrate Retirement Calculator

Using these tools regularly can help you stay on track and adjust based on changing financial situations.

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Conclusion

Understanding and calculating your retirement savings gap is a critical step toward financial security in retirement. By defining your retirement goals, estimating expenses, and projecting your savings and income sources, you can clearly see if you are on track or if adjustments are needed.

Using a retirement savings gap calculator or manually calculating—as demonstrated in the example—equips you with the knowledge to make informed decisions today for a comfortable tomorrow. Start early, review frequently, and adjust your plan as your life and goals evolve.