I recently answered a question from a blog reader and received the following message:

“Thanks VERY much! In the past few years, I have paid $500 to two separate financial planners to get this kind of advice, to no avail.  In a few minutes you provided me more useful information than they provided.  They have been helpful telling me how much I CAN invest with them, where, and how much that investment will grow to – but they haven’t, can’t or won’t tell me how much I SHOULD be saving now to get to a recommended savings target – so that I have enough to retire, but also am not unnecessarily saving too much now rather than enjoying it while my family is young, all together (before kids get big and move out) and all healthy (and capable of enjoying it).”

What prompted that response? While the main problem is that most Americans aren’t saving enough for retirement, you don’t necessarily want to go overboard and grossly overestimate (a little overestimation is okay to be on the safe side) how much you need to save either. After all, the key to financial planning is finding the right balance between current and future financial needs. Skewing things too much towards the future can be counterproductive by causing discouragement.

So how much do you need to retire? Experts typically recommend that the average person have 80% of your current income in retirement. But that’s like putting one hand in ice water and the other hand in boiling water and saying that on average, your hands are pretty comfortable. The fact is that people’s retirement needs can vary dramatically.

First, start with your expenses. Don’t just guesstimate them. Actually go through your bank and credit card statements and record your expenses on a worksheet like this. Then think about how each expense might change in retirement in order to estimate a retirement budget. For example, if your mortgage will be paid off, your housing expenses would be considerably less. You may also spend less on things like gas and eating out but more on health care and travel.

Second, subtract from that anything you expect to receive from pensions (if you’re lucky) and Social Security (ditto). Your HR department should be able to provide you with a pension projection and you can estimate your Social Security benefits here. But if you’re under age 50 or even 55, you might want to reduce that projected Social Security benefit by at least 25% to account for the projected funding shortfall of 20-25% starting in 2033. You’ll also want to reduce your pension income for taxes and possibly your Social Security too if your benefits will be taxable.

What you have left is the amount that needs to come from savings. Take the annual amount and multiply it by 25. That’s because experts say that you can safely withdraw about 4% of the value of a diversified portfolio and increase that amount each year with inflation for 30 years. The result is how much you’ll need at retirement to safely produce the income you’ll need. (If it’s in taxable retirement accounts, you may want to increase it by 10-20% to account for the taxes you’ll pay on it.)

Now, there’s one more variable we left out and that’s inflation. Even a million dollars in retirement won’t be worth much in 30 years. To figure out how much you’ll need in future dollars, plug that nest egg amount into this calculator.

The calculator will also tell you how much you need to save each month to accumulate that amount based on how many years you have left to retirement, how much you’ve saved so far, and what rate of return you can expect on your investments. (I generally assume a conservative 6% average annualized rate of return.) If the resulting number looks daunting, don’t forget to subtract any employer contributions to your retirement account like matching funds.

After this exercise, hopefully you’ll have a reasonable saving target to reach your retirement goals. If not, try running the numbers with a slightly later retirement date and/or slightly lower retirement income (two overseas trips a year instead of three). You might be surprised by how much of a difference small changes can make. In any case, I hope you can find a balance that makes you as happy as that reader!