If you wonder what size retirement nest egg you will need in retirement, you are asking the wrong question. Instead you need to ask how much you spend. Once you know, and admit, how much you spend and understand your spending patterns, then you can worry about what size nest egg you will need to fund your retirement.

This will be harder than it sounds. Most people have no idea how much they spend. When I ask clients how much they spend during the year, their estimates are usually off by at least 50 percent, that is, if they are willing to come up with an estimate. When they do finally figure out what they do spend, the level of denial is amazing.

Being honest with yourself about what you spend is so basic, but people simply don’t want to confront it. What’s scary to me is how long people stay in denial. They don’t want to look at how much they spend versus how much they really need.

And What Do You Spend?

Figuring out how much you spend should be simple, if you are willing to do it. Spending falls into three main categories: One that you can’t control, one where you are in full control, and one that’s a mix where you do have some control but need to prepare for the unexpected.

1. The spending you can’t control consists of fixed, non-discretionary expenses and these include basic essentials such as housing, food, clothing, utilities, insurance premiums, health care, and essential travel.
2. The mixed category includes “time-discretionary” expenses such as buying a new carpet, taking a vacation, expenses that can be deferred. But you can plan ahead and budget for both. For instance, many retirees like to buy a new car on a regular basis, maybe every five years, but they can budget for that, or they might consider leasing a car instead of buying. You can’t budget for the unexpected costs of, for example, an accident that hospitalizes you or damage done in a flooded basement. But you need to know they will come and be prepared.
3. You have absolute control over your discretionary spending, which includes life’s extras such as the round-the-world cruise, the African safari or the luxury model new car, along with extravagant gifts to family and friends. Leaving a legacy inheritance for family is considered a luxury, but if you make it a priority, you need to add it to your “nest egg.”

Why Spending Matters

Understanding your annual living expenses provides a far more useful guide to what you will need in retirement than some arbitrary percentage of your pre-retirement income, but until people become honest with themselves and look at what they actually spend, they can’t calculate how much they will need in retirement.

Since most people consider retirement as a time to stop working and enjoy a life of leisure, most people are underfunded unless they understand how, and what, they spend.

Here’s what it might look like if you calculate that you need $10,000 a month to live and stick with your spending habits. In that case, your nest egg at age 70 should be $3 million (12 x $10,000 x 25 = $3 million). But you could easily throw that equation out of whack with extravagant gifting at Christmas and birthdays and lavish travel that would drive annual expenses to $200,000. In that case, your nest egg needs to be closer to $5 million.

The calculation changes slightly with age. At age 70, your nest egg should be 25 times your annual living expenses, but at age 80, it should be 19 times annual living expenses. Both reinforce the need for an accurate calculation of living expenses, no denial.

Plan for Heavy Spending at the End of Life

In the last years of life, when health deteriorates and you may need extra help, an assisted living arrangement, or full-time nursing care, it is easy to spend $100,000 a year, or for a couple $200,000, simply in health and personal care costs. Given that reality, budgeting $1 million for the last five years of live is not excessive. Long term care insurance is an option for those who don’t want to self-insure and budget that extra $1-2 million, though with most policies, giving up quality of care is the trade-off for coverage.

Building Your Nest Egg

So, how do you build that retirement nest egg, assuming that you have been honest about your spending needs, both fixed and optional? Again, the answer is self-discipline. The most important thing is to learn to say “no” to yourself, or at least “not now.”

Then you need to take advantage of all available qualified retirement plan options. For instance, you need to max out your 401K contributions and, if you are self-employed, max out your SEP contributions. You also need to max out contributory IRAs and Roth IRAs.

If you do nothing more than put your money in a plan when you are in a 35 percent tax bracket, then take it out in retirement when you are in a 20 percent tax bracket, you have a nice return on your money.

You also must eliminate any debt except for your home mortgage and car loans and you need to recognize that there’s nothing wrong with paying for something while you are using it. Your credit cards are a different story. Credit card debt should be paid every month.

Be Sure to Get Your Priorities Straight

You also need to understand that retirement funding should have priority over your child’s college education, though many people give college a higher priority. That’s backwards, and a bad tradeoff. If you maximize your retirement and are financially sound and your child needs to take out loans, then you are in a position to help. Remember: if you take care of yourself first, you will always be able to take care of your children and your grandchildren.

Self-discipline is Key

If you are wondering when to start planning for your retirement, the answer is that you probably should have started long ago. The sooner you start saving for this elusive “nest egg,” the better. That means you need to impose the rigid self-discipline of saving and knowing exactly where your money goes. You need to practice self-discipline with spending much the same way you practice self-discipline to maintain your health.

For all of those who remain in denial about their spending habits, imposing self-discipline is essential. To do this, you need to you keep reminding yourself that it is much easier to spend than to save.

And, to reinforce the health analogy, just as it is much easier to sit and watch TV than to exercise or to eat a hot fudge sundae than fruit and cheese, but we all know which are the best choices for your health. You need to practice the same rigid self-discipline with your spending to protect your financial health in retirement.

That’s why asking about your spending is the right question to prepare you for a financially secure retirement.