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Saving for retirement

What percentage of our income should we be socking away for retirement? The conventional wisdom has been 10 per cent. Other answers include "as much as you can" and the perennial favourite: "more." All three answers aren't good enough.

Is it a percentage of gross income before tax? Or is it based on net income, after income taxes have been factored in? And isn't it 15 or 20 per cent these days? And should it be into an RRSP or a TFSA? Do you factor in any pension deductions at work?

The answer to any question involving money and time will depend on a wide number of variables, many of which are unknowable in advance. How much will you spend? How fast will your investments grow? How long will you live?

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One of the biggest mistakes investors make is not automating their savings. I say this because time after time, the people who have set up an automatic transfer to a savings account or investment portfolio are almost evangelical about how it changed their lives.

Am I being dramatic? No. Imagine if you were asked to pay your income tax in one lump-sum payment at the end of the year instead of having it deducted at source from each paycheque. If we had to come up with tens of thousands of dollars at the end of the year, many of us simply wouldn't be able to cut that cheque. It's only because it's taken automatically on a regular basis that we're able to pay our tax bills. Conversely, automatic contributions to long-term savings add up over time. There's almost nothing to lose in setting it up.

With the average debt-to-income ratio at a record high, many are wondering if they should instead focus on paying down debt before worrying about saving for the future. Without a doubt, high-interest debt on credit cards is a higher priority than saving for the future. But those with a more responsible debt portfolio are still wondering the same thing.

Those lacking the stomach for moderate to aggressive investment portfolios might take comfort knowing that many Canadians in the past, and in the future, focus on accelerating their mortgage repayments first and then turn to aggressive saving later on. When the hair starts to thin, the children become self-sufficient, and retirement starts to feel like a less abstract idea, it's not unheard of to see the thousands of dollars that were being put into a mortgage payment then get directed to retirement savings. The tradeoff is that if you wait, saving 10 per cent of your income would be like only making the minimum payment on a credit card balance. You would need to be prepared to sock away 30 per cent or more if you delay saving for retirement.

Another consideration is that your time horizon until retirement would be shorter, which can affect how much risk you can accept in your portfolio. And since one of the reasons you may have focused on accelerating debt repayment first was due to a more conservative risk profile, the rate of return projections may be lower for an older, more conservative investor than a younger, more aggressive one.

If you are paying fees for financial advice, you should ideally be working with a financial planner. A financial plan will provide a ballpark estimate to the question of how much to save based on a long list of variables. Importantly, it can be subject to a number of "what if" scenarios. What would happen if your investments grew at a rate just barely above inflation? What if you live until 100? What would the effect of private nursing costs look like versus a public retirement residence?

While the idea of a perfect financial plan involves having the last cheque you write being the only one that ever bounces, the financial planning process is an ongoing and ever evolving one. One cannot simply arrive at a retirement expense projection for the year they turn 65 and then adjust for inflation thereafter. Just as expenses change during a working career, so too will they change in retirement.

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But while saving for retirement is about mitigating the risk of running out of money down the road, the true financial planning process will identify risks that may be present between now and retirement. Are you one of those families that have procrastinated on wills, powers of attorney and insurance? Are you focused on not running out of money for decades in retirement, but couldn't last four weeks of unemployment today?

The answer to the question of how much one should be saving is often seen as a non-answer: It depends. A financial plan will help find your number, but until you get one, the greater plan would be 10 per cent or "as much as you can." And then, maybe just a little more.

Preet Banerjee, a personal finance expert, is the host of Million Dollar Neighbourhood on The Oprah Winfrey Network and author of the new book, Stop Over-Thinking Your Money! Follow him on Twitter at @preetbanerjee.

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