Saving Towards Retirement
This article was republished with permission from Barron’s NEXT.
FWIW, when folks your parents age are asked for their biggest retirement planning regret, the most popular response is “not getting started earlier.” And they probably have pensions and certainly Social Security. Unless you’re a cop or a teacher, forget about the former, and while Social Security will probably be around in some form for you, it won’t be enough to pay all your bills.
The reason to start right away is that the biggest single advantage you have is time. Over the decades your money will grow so much that you start to earn interest on the interest. And it’s in the out years — 30 to 40 years from now — that you’ll see the really big gains.
But we know that finding the money to invest can be tough. Here are some guidelines:
• First, some happy news: You know how the money that goes into your bank account every two weeks is lower because taxes are taken out? That doesn’t happen with money you put in a traditional 401(k) or 403(b). So when you put, say, 10% of a $48,000 salary into your retirement account, that $4,800 goes in before the IRS takes a chunk. And that means your paychecks won’t fall by the full 10%, because now you are only taxed on $43,200 (minus any other deductions).
• About that 10%…Commit to a plan that gets you saving 10% of your gross income each year as soon as possible. Get to 15% and you’re rocking the retirement security. If you have a retirement plan at work, many allow you to automatically increases your contribution rate by 1 percentage point a year. If that’s not available, pick a memorable date — when you started work, or your birthday and make a note to boost your savings rate at each anniversary.
And every time you get a raise, “Take a chunk and bump up your savings rate,” says Delorme. What’s a chunk? Aim for 50%. Example: If you get a 5% raise, immediately boost your retirement savings rate by 2.5 percentage points.
• Break it down into a chewable amount. Five figure annual saving goals are daunting. If you want to save $5,000 a year, that’s about $96 a week, or less than $14 a day. Definitely not nothing, but smaller sums are psychologically easier to work with. While “saving $5,000 a year” sounds insurmountable, nip and tucking your spending to free up $14 a day seems plausible, right? (See “How to Make a Budget — the Shortcut Version.”)
• Crowdfund in the family. If you have parents, grandparents or aunts and uncles in solid financial shape who are willing to help you build financial security, ask them to forego store-bought gifts in lieu of gifting you some cash that you promise to tuck away in a retirement fund.
• Hit up the boss for everything she’s got. Quick question: Would you ever turn down a bonus? Of course not. Yet about 20% of younger workers don’t pocket the full annual retirement saving bonus they are offered.
Many workplace retirement plans come with an employer match, which is very much like an annual bonus. A match is an agreement that if you direct some of your salary into the retirement plan, your boss will pitch in some money too. Often the matching contribution is 50% of what you put in (up to an annual cap). But what often happens is that when you were hired, you were automatically enrolled in the retirement plan and your employer started you at a very low contribution rate (typically 3% of salary). That’s typically too low a rate to qualify you for the maximum match. Contact HR to find out the annual contribution rate you need to hit to ensure that your boss coughs up the maximum matching contribution, and at least boost your savings to that amount.
• Lean on low-cost mutual funds and ETFs. Having a retirement account is just the start. You then need to decide how to invest it. Don’t keep your money sitting in cash. At a young age, you want to lean heavily on stocks—which over the long-term have produced the highest returns. The easiest way to build a diversified portfolio of stocks is to invest in low-cost mutual funds and exchanged traded funds (ETFs), which typically hold hundreds of stocks in their portfolio. A simple portfolio of three funds/etfs is all it takes. Investing in a single Target Date Fund is another smart way to create a diversified retirement portfolio.