Chapter 14 Financial Planning Exercise 2 Calculating annual investment to meet r

Question

Chapter 14
Financial Planning Exercise 2
Calculating annual investment to meet retirement target

Use Worksheet 14.1 to help Andy and Rachel Cutler, who'd like to retire while they're still relatively young - in about 20 years. Both have promising careers, and both make good money. As a result, they're willing to put aside whatever is necessary to achieve a comfortable lifestyle in retirement. Their current level of household expenditures (excluding savings) is around $80,000 a year, and they expect to spend even more in retirement; they think they'll need about 125% of that amount. (Note: 125% equals a multiplier factor of 1.25). They estimate that their Social Security benefits will amount to $23,000 a year in today's dollars and they'll receive another $34,000 annually from their company pension plans. They feel that future inflation will amount to about 3% a year, and they think they'll be able to earn about 6% on their investments before retirement and about 4% afterward. See Appendix A and Appendix B.

Use Worksheet 14.1 to find out how big Andy and Rachel's investment nest egg will have to be. Round your answer to the nearest dollar.
$    

How much they'll have to save annually to accumulate the needed amount within the next 20 years. Round your answer to the nearest dollar.
$   

Use Worksheet 14.

PROJECTING RETIREMENT INCOME AND INVESTMENT NEEDS Name(s) Date I. Estimated Household Expenditures in Retirement: A. B. C. Approximate number of years to retirement Current level of annual household expenditures, excluding savings Estimated household expenses in retirement as a percent of current D. Estimated annual household expenditures in retirement (B × C) I. Estimated Income in Retirement: E. Social security, annual income F. Company/employer pension plans, annual amounts G. Other sources, annual amounts H. Total annual income (EF+ G) Additional required income, or annual shortfall (D H) IlI. Inflation Factor: Expected average annual rate of inflation over the period to retirement Inflation factor (in Appendix A): retirement (A) and an expected average annual rate of inflation (J) of J. K. Based on 0 years to 0% 1.000 L. Size of inflation-adjusted annual shortfall (I x K) IV. Funding the Shortfall: M. Anticipated return on assets held after retirement N. Amount of retirement funds required-size of nest egg (L ÷ M) O. Expected rate of return on investments prior to retirement P. Compound interest factor (in Appendix B) 0 years to retirement (A) and an expected rate of return Based on on investments of 0% 0.000 Q. Annual savings required to fund retirement nest egg (N P) Note: Parts I and II are ared in terms of current (today's) dollars.

Explanation / Answer

Solution:

Given data,

Andy and Rachel Cutler, who'd like to retire while they're still relatively young in about 20 years.

Both have promising careers, and both make good money.

As a result, they're willing to put aside whatever is necessary to achieve a comfortable lifestyle in retirement.

Their current level of household expenditures (excluding savings) is around $80,000 a year, and they expect to spend even more in retirement;

they think they'll need about 125% of that amount. (Note: 125% equals a multiplier factor of 1.25).

They estimate that their Social Security benefits will amount to $23,000 a year in today's dollars and they'll receive another $34,000 annually from their company pension plans.

They feel that future inflation will amount to about 3% a year, and they think they'll be able to earn about 6% on their investments before retirement and about 4% afterward.

P. Compound interest factor (in appendix B): Based on 20 years to retirement and an expected rate of return on investments of 6%

36.786

PROJECTING RETIREMENT INCOME AND INVESTMENT NEEDS Name (s): Andy and Rachel Cutler Date: I. Estimated household expenditures in retirement: A. Approximate number of years to retirement 20 B. Current level of annual household expenditures, excluding savings $80,000 C. Estimated household expenditures in retirement as a percent of a current expenses 125% D. Estimated annual household expenditeres in retirement $100,000 II. Estimated income in retirement: E. Social security, annual income $23,000 F. Company/Employer pension plans, annual amounts $34,000 G. Other sources, annual amounts - H. Total annual income (E+F+G) $57,000 I. Additional required income, or annual shortfal (100,000 - 57,000) $43,000 III. Inflation factor: J. Expected average annual rate of inflation over the period of retirement 3% K. Inflation factor (appendix A) : Based on (A) and an expected average annual inflation rate of 3% 1.806 L. Size of inflation adjusted annual shortfall (I * K) $77,658 IV. Funding the shortfall: M. Anticipated return on assets held after retirement 4% N. Amount of retirement funds required - size of egg nest (L / M) $1,941,450 O. Expected rate of return on investments prior to retirement 6%

P. Compound interest factor (in appendix B): Based on 20 years to retirement and an expected rate of return on investments of 6%

36.786

Q. Annual savings required to fund requirement nest egg (N / P) $52,776.87

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