We need to plan on having a retirement income that is at least 85 percent of our pre-retirement earnings.

That's what the Retirement Industry tells us.

Should we believe them?

This is not an idle question.

The answer has a major impact on how large our retirement nest egg should be--- and how much money the mutual fund industry has to manage.   It also has a mighty influence on how much it costs to sustain the Life of Riley standard of living, retiree version.

The answer, it turns out, is a resounding, "No. We shouldn't believe them."

The authoritative source for this is the RETIRE Project at Georgia State University. Done regularly by the Center for Risk Management and Insurance Research, they have now updated their study for 2001. Like past studies, the new data shows us that relatively low-income households ($20,000) need nearly 85 percent of their pre-retirement income when they retire. But the percentage required declines as income rises until pre-retirement income is well past $70,000. From $50,000 to $70,000, for instance, the new study shows we need about 76 percent of our pre-retirement income.

That's less than 85 percent.

Let's calculate the nest egg difference for a $60,000 income. Seventy-five percent means you need $45,600 in retirement income instead of $51,000. The difference is $5,400 a year.

To get an inflation-protected income of $5,400 from investments you would need an additional $135,000 of savings. This assumes a 4 percent withdrawal rate.

That's a lot of spare change.

Now let's walk through how the RETIRE Project comes up with its figures. Basically, it's an effort at reverse accounting in four steps.

First, they assume a household configuration--- such as a couple, age 65 and 62, with two earners who have a 60/40 split of income. Then they examine the impact of employment taxes, federal income taxes, and state and local income taxes on different levels of income. For a $60,000 family taxes take some $13,066. This leaves the working couple with after-tax income of $46,934.

Second, they adjust after-tax income for pre-retirement savings and estimates of spending changes in retirement. Both figures are derived from consumer survey data. Surprisingly, the new study shows that consumption expenditures now rise slightly for all families. In previous studies consumer expenditures declined in retirement for most families. The net figure is their retirement consumption, $43,675.

The third step is to recalculate the federal, state, and local income taxes the couple would pay on their retirement consumption. For 2001, a $60,000 income can be replaced with $45,856.

This computes to 76 percent replacement rate, not 85 percent.

The project doesn't stop there.

A fourth step estimates what the retirees will receive in Social Security benefits. In this case, it is $21,022 or 35 percent of pre-retirement income. This leaves $24,834 to be replaced by nest egg income. Multiply that by 25 to reflect a 4 percent withdrawal rate and you need $620,850 to retire. The table below shows how the study came to its results for working incomes between $60,000 and $70,000. The required nest egg calculation is mine.

Moving from Working Income to Retirement Income
1. Preretirement Salary $60,000 $70,000
2. Less Social Security Taxes        4,590        5,355
3. Less Federal Income Taxes        6,650        9,178
4. Less State and Local Taxes        1,826        2,418
5. Equals Preretirement After-Tax Income    46,934    53,059
6. Less Preretirement Savings        2,536        3,151
7. Less Expenditure Change              723              822
8. Equals Post-Retirement Consumption Income    43,675    49,086
9. Plus Post-Retirement Federal Income Taxes        1,782        2,797
10. Plus Post-Retirement State and Local Income Taxes              399              619
11. Equals Total Before-Tax Income Needed    45,856    52,502
12. Gross Income Replacement Ratio (line 11/ line 1)                76%                75%
13. Less Social Security Benefit(s)    21,022    23,462
14. Equals Income Needed from Pension or Individual Savings    24,834    29,040
15. Percent of Income from Pension or Individual Savings (line 14/ line 1)                41%                  41%
16. Nest Egg required at 4 percent withdrawal $620,850 $726,000
17. Nest Egg required at 5 percent withdrawal $496,680 $580,800
Source: Georgia State University RETIRE Project, 2001. Figures assume two workers with 60%/40% split of salary, ages 65 and 62.

That's a lot less than the $2 million needed to be independently middle class (as calculated last week) but it's up dramatically from only three years ago.