For older Americans, living off retirement account interest and returns is how retirement is structured. The goal is that by the late 60s you’ll ideally have enough stored up the coast indefinitely. For younger Americans, the goal is to build enough of a nest egg to retire early. But building that kind of nest egg isn’t easy. And when you think about how much money you’ll need to get there, you might ask: Is $2 million enough? And, can you live off the returns of a $2 million account? The answer is yes, if you are smart about it. Here’s what you need to know.
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How to make a living from interest
The first thing you need to figure out is how you live off interest. When we talk about living off interest payments, we’re referring to what’s called “passive income.” This means that your various assets generate enough money on their own to provide your monthly income. You have no supplemental income or other work (beyond portfolio management) that adds to either your portfolio or your monthly budget.
Ideally, you also don’t rely on the mainstay. You can, of course. For example, someone who took $75,000 a year from a $2 million account could make a contribution for more than 25 years before the account was exhausted. But when we talk about living on interest, we’re trying to decide whether you can live on it indefinitely. This means you don’t touch the principal, just the interest and repayments.
Step One: How much money do you need?
To figure out if you can live off the interest on an account, the first step is to understand your own expenses. To put it another way, you first need to know how much money you will need each month. Then you can figure out what kind of savings can get you there.
Living off the interest on your savings is a great goal, and one that many younger Americans are increasingly aiming for. The best way to start this project is to focus on debt. Nothing will erode your ability to earn your living expenses faster than the fixed monthly overhead of a credit card, student loans, or other forms of interest-bearing debt. Pay them off as soon as you can and this task will be much easier.
When doing this math, it’s important to balance your needs and wants. First, how much money do you absolutely need per month? Do you have fixed expenses like medical bills or other bills that can’t go away? Do you support anyone?
Then take a realistic look at your lifestyle. What you want to do here is balance two competing needs: On the one hand, the richer your lifestyle, the higher your bills, and the more money you’ll need for a portfolio to generate those returns. On the other hand, the point here is to be happy. Set a life goal that allows you to have the things you want in life, otherwise you’ll be both more miserable and more likely to blow your budget.
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Social Security provides a steady source of income for older Americans and is a fantastic supplement to almost any retirement plan. The average retiree collects about $1,650 a month from this plan. We won’t include it in this article, as it skews our answer to whether someone can live on just $2 million in savings. But if you want to retire, definitely don’t forget to include that income in your budget.
Can it be $2 million?
If you have $2 million saved, what kind of budget can you live on? The answer to this question depends entirely on how you have invested that money.
Investment options for your money range from something as basic as a savings account to options like stocks, bonds and other assets. The key question is reliability and security. The more money an investment returns, the greater the risk of loss or at least volatility. If you want to live off the interest of an account, you need a balance:
The investment must be safe enough to minimize the risk of loss, otherwise you will be left without the money you need to live on.
The investment should be relatively stable so you can generally know what to expect each year or over time.
The investment also needs to grow enough to generate real income, otherwise you won’t get substantial returns to live on.
While there are many different options out there, here are four of the best options for steady, long-term income investing:
High Yield Savings Account, 0.60%: Income $12,000 annually. A high-yield savings account is literally just a savings account at the bank, but because you’ve deposited a lot of money they charge an interest rate. While the numbers vary, on average you can expect to find interest rates around 0.60 percent. This isn’t a great option for generating income, but it’s about as solid as you can get in terms of reliability.
One-year T-bill, 1.72%: Income $34,000 per year. Government bonds and bills offer a wide variety of options. Their interest rates change based on monetary policy decisions, but at the time of writing a 12-month Treasury note was offering 1.72% in interest. This is the safest place in the world for your money, although returns tend to be low and this interest rate can change.
Certificates of Deposit, 1.2%: $24,000 per year. When you buy a certificate of deposit, the bank holds your money for a set period, meaning you can’t withdraw it, but in return they pay you an increased interest rate. With a good bank you should be able to get interest rates around 1.2%. Like a savings account, this is about as good as you can get in terms of reliability, although even a CD’s increased rate is pretty low and you can’t access your principal in an emergency.
S&P 500 Index Funds, 10%: $200,000 annually. Over the past few decades, mutual funds and ETFs indexed to the S&P 500 have returned an average of between 10% and 14% annually. Unlike the other options we’ve looked at here, index funds come with real risk. With a bank product (such as a savings account or a CD) or Treasury debt, you have an extremely high degree of confidence in both your performance and your capital. The stock market is much less predictable. It fluctuates, with some years dramatically outperforming the average and other years showing losses. However, an index fund is also the most stable, higher-yielding option we can recommend.
Because you can live on $2 million
Some budget-conscious households may be able to live off the Treasury debt repayment of $34,000 a year. Although this is a small amount of money compared to your possible future needs. And even if you can pay your bills, you almost certainly won’t leave any room for error.
An index fund, however, could offer you an alternative to doing this. The good news about an index fund is the simple numbers involved. At $200,000 a year in average returns, that’s more than enough for all but the highest spenders to live comfortably on. You can collect your returns, pay your capital gains taxes and have plenty left over for a comfortable lifestyle.
The bad news for an index fund is volatility. Over time major indexes such as the S&P 500 revert to their averages. In any given year, however, returns will vary. For example, between 2012 and 2022 alone the S&P 500 posted annualized returns of 29.6% (2013), -6.24% (2018) and 26.89% (2021). Among returns of nearly three times the average, the market also spent a year missing nearly a full year’s average gains.
This means that over time the markets can be reliable enough to rely on, but you need to plan ahead. If you want to live off an index fund, you can’t live paycheck to paycheck. Your budget should include putting cash away in one of the safe options, such as a certificate of deposit or Treasury debt. This safety net should be large enough to allow you to live for a year or more with low returns, and even replace the capital lost in your account if needed.
With $2 million in hand, that’s an entirely achievable goal. For example, you could easily set a household budget of $100,000 per year (again, a very comfortable amount of money). You could take the other half of your annual returns and use them to pay taxes and build that precautionary war chest. Once that bank of steady savings has several hundred thousand dollars, enough to offset several years of lost earnings, you can reduce your contributions or start rolling any excess returns into your index fund.
Can you live on $2 million in assets? The answer is yes, if you manage your investment portfolio smartly. A common option is to invest $2 million in an index fund. However, you should still make sure you have a rainy day fund, as the market can be reliable for decades, but volatile over the years.
Tips to help you save for retirement
According to the Federal Reserve, 60% of people with retirement accounts are unsure about their investment decisions. If you are one of them, why not hire a financial advisor? SmartAsset’s free tool matches you with up to three financial advisors serving your area, and you can interview your advisors at no cost to decide who is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
Counting on Social Security benefits alone likely won’t provide full support for your current lifestyle. But the benefits can certainly help with your living expenses in retirement. SmartAsset’s Social Security calculator will help you calculate how much benefit you can expect.
And, if you want to figure out if you’re saving enough for retirement, SmartAsset’s free retirement calculator can help you determine how much money you’ll need.
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