Buzz
A million dollars may seem like a fortune, but when planning for retirement, it might not stretch as far as you think. According to The Wall Street Journal, this concept is referred to as 'the illusion of wealth.' Here's what that means.
As the article explains, $1 million can appear to be far more than $5,000 a month. If you ask most people which option they'd prefer for retirement—$1 million or $5,000 monthly—most would likely choose the lump sum. However, when it comes to retirement savings, both amounts are essentially equivalent, given a few key assumptions. Here’s how The Wall Street Journal breaks it down:
The first thing to consider is that these two options are roughly the same in terms of current annuity pricing. (A common guideline is that monthly annuity payments are about 1/200th of the lump sum, assuming payments begin at age 65.) Despite this equivalence, people tend to have very different emotional reactions to the two options. Some individuals believe that $1 million is far more adequate than receiving $5,000 per month. These individuals are often affected by the illusion of wealth. They perceive the $1 million in their accounts as far more substantial, leading them to believe it is superior to $5,000 in monthly income.
The downside of this illusion? It can lead some people to save less for retirement than they should. This false sense of security can be harmful, even though it still represents a significant amount compared to what many have saved.
The goal isn't to make you feel bad if you're trying to catch up. It's simply to highlight that 1) saving for retirement is crucial and 2) understanding the math is key. In other words, you need to look beyond the lump sum. As you start working on your retirement plan (and the earlier, the better), be sure to consider the entire picture: your anticipated monthly expenses, the length of time you'll be making withdrawals, and your estimated monthly income based on your current savings rate.
