For years, $1 million was shorthand for a comfortable Australian retirement. More recently, $2 million has started appearing in retirement projections, calculator results and attention-grabbing headlines.
However, there is no universal superannuation target.
Whether you need $2 million depends mainly on when you retire, how much you plan to spend and whether the Age Pension will eventually support your income.
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The superannuation maths, worked backwards
Start with the income, not the balance.
Consider a couple retiring at 60 and funding a 30-year retirement entirely from their own capital. Assuming annual returns of 6% after fees and tax, inflation of 3% and no remaining balance after 30 years, an income of $80,000 a year in today's dollars requires approximately $1.6 million.
Lifting the desired income to $100,000 increases the starting balance to almost $2 million. If annual returns rise to 7% under the same assumptions, the required balance falls to around $1.75 million.
That is where the $2 million figure becomes relevant. It is approximately what an early-retiring couple needs to fund a six-figure lifestyle without relying on the Age Pension.
Change the retirement age, spending target or return assumption and the number changes with it.
Why ASFA's benchmark is much lower
The Association of Superannuation Funds of Australia estimates that a comfortable retirement currently costs $55,923 a year for a single homeowner and $78,566 for a couple.
ASFA estimates the corresponding superannuation balances at $630,000 and $730,000 respectively. However, those figures assume retirement at 67, home ownership and access to a part Age Pension over time.
That makes them very different from a couple retiring at 60 and funding everything independently.
The maximum Age Pension is currently worth approximately $31,223 a year for a single retiree and $47,070 combined for a couple. However, it is means-tested. A homeowner couple retiring with $730,000 in assessable assets would generally receive only a part pension, with the entitlement potentially increasing as their assets are drawn down.
At a simple 4% withdrawal rate, replacing the maximum couple pension would require almost $1.2 million of additional capital. That is not precisely how ASFA models retirement, but it illustrates why its recommended balance is so much lower than a fully self-funded target.
The important question is not which benchmark is correct. It is which set of assumptions resembles your household.
Where investors can close the gap
For investors with substantial super balances, contributions are only part of the equation. Returns earned on the existing portfolio can become increasingly influential during the final decade of work.
The Australian share market has historically generated average annual returns of around 9% over long periods, including dividends. Past performance does not guarantee future returns, but it demonstrates how compounding can accelerate as the balance grows.
For example, $600,000 earning a 5% annual return after inflation would grow to approximately $977,000 in today's dollars over 10 years, without further contributions. If another $15,000 reaches the account each year, the balance could grow to around $1.17 million in today's dollars.
The final decade before retirement is not necessarily when growth stops mattering. It can be when compounding has the largest pool of capital to work on.
Broad-market exchange-traded funds such as the Vanguard Australian Shares Index ETF (ASX: VAS) and iShares S&P 500 ETF (ASX: IVV) can provide diversified exposure to Australian and international shares.
Australian shares may also generate franking credits, although the benefit received depends on the super fund, account structure and individual tax circumstances.
Shares alone are not a complete retirement plan. Fees, diversification, liquidity and the order in which returns occur all matter. A sharp market fall during the first years of retirement can cause substantially more damage than the same decline earlier in life, making portfolio construction and the drawdown plan just as important as the target balance.
Foolish takeaway
A $2 million superannuation balance is a reasonable target for one particular scenario: a couple retiring early, wanting around $100,000 a year in today's dollars and planning without the Age Pension.
That is not every Australian household.
For people retiring later with a paid-off home and some Age Pension eligibility, ASFA's modelling suggests a comfortable retirement may remain achievable with considerably less than $1 million.
The number that matters is not the one attracting headlines. It is the capital required to fund your desired spending from your chosen retirement date, under realistic assumptions about inflation, returns and the Age Pension.
For some households, that may be $2 million. For many others, it will be substantially less.
