It is Dec 31, 2010 and 35 year old Camille is reviewing her retirement savings a

Question

It is Dec 31, 2010 and 35 year old Camille is reviewing her retirement savings and planning for her retirement at age 60. She currently has $55,000 saved which includes the deposit she made today and invests $2,000 per year at the end of the year in a retirement account that earns 10% annually She has decided that she is comfortable living on $40,000 per year in today's dollars and believes she can continue to live on that amount as long as it is adjusted annually for inflation. Inflation is expected to average 2.86% per year for the foreseeable future. After researching information on average life expectancy for females of her background, her plan will assume she lives to 88 years. She will withdraw the amount needed for each year during her retirement at the beginning of the year. So, on December 31 at the age of 60, she will make her last deposit of $2.000 and the following day January 1, she will withdraw her first installment for retirement.

Question: Assume that Camille continues with her current plan. What interest rate would she have to earn on her investments to make it work?

Explanation / Answer

If Camille continues with her current plan , then

Camille's savings:

Using formula : FV = P0(1+i)n

55000(1+0.1)25 = 5,95,903

2000×88.496 = 1,76,992 ( at 10% interest for 24 years)

Total savings = $7,72,895

Camille's expenses :

Total expenses during her retirement period ( from age 60 to 88) :

$34,03,435.75

Since expenses are more than savings , Camille's current plan will not be suitable.

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