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How much do I need to retire?

It is time to pull out the calculator and take a sit down to run through some numbers. When we break things down, how much do you really need to be able to retire, and what investment tools and tips can help you along the way?

When trying to answer any such questions, I do need to make some quick disclaimers. Everyone is different in their own financial goals and the specific circumstances that they need to take into account. My thoughts below are meant for an average person, but you may be far from average, so take that into account.

Income

Let’s start by taking a look at what you need actively coming in money-wise in order to not have to work. On average, a UK salary works out to roughly £30,000 per year. This is also a fair estimation of what you would need to have coming in to live as you did before retiring.

How are you going to generate this income? Well if you don’t want to work (which is the general concept of retirement, after all) you will need passive income. One good way to generate that is through interest, dividends or coupons. 

Using one of the best easy access savings account rates of 1.25%, you would need to have £2.4m in an account to generate the needed £30k interest. If you invested in a stock such as Taylor Wimpey, which currently offers a yield of around 9%, you would need to much smaller amount of £333,333. 

You need to watch out for fluctuations in the share price, which may erode your capital, as well as any potential dividend reductions, but this example gives you a good figure to work towards.

Investments

So far we have established that in order to generate enough income for day to day expenses, we need somewhere between £333k and £2.4m in our retirement pot. But what about retirement funds for large expenses, such as buying a holiday home, a new car or gifting money to family?

For that, we need to add in investments that do not necessarily provide income, but that have the potential to offer strong growth. If you need £25,000 a year to cover large expenses, how much would you need to have invested?

To illustrate, consider the HSBC FTSE 100 index tracker fund, which has risen 40% over the past five years by following the FTSE 100 index. If we think of that as 10% per year, then with an original investment of £250,ooo, we could have taken £25,000 in profit out of the fund each year. If we invested in successful growth stocks instead (such as JD Sports, which returned almost 800% in five years), then we would need less to start with. However, if we chose stocks that didn’t perform as well, we would need a larger initial investment.

In conclusion, to generate income of around £30k per year and an additional £25 a year for larger expenses, you need a total pool of around £800,000 as long as it is invested in high dividend yield stocks and index trackers. If you keep your money in cash, you’d need much, much more. Depending on market movements, this could be higher or lower going forward, but it does show you how smart investing can make life easier.

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Jonathan Smith and The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.