Flip through a magazine or turn on the television and it seems that there’s an entire universe of happy, wealthy retirees walking along beaches without a care in the world.
How do you become one of them?
Well, unless you invent some wildly popular software program or hit the jackpot, the road to sandy paradise is likely to be paved on a foundation of common sense, hard work and discipline.
So much for easy answers.
But here’s the good news. If you can imagine strolling along that beach, globe-trotting in your 70s or some other definition of a perfect retirement, you’re halfway there. So, what is it that you want to do after work? Take up cooking? Travel? Burn that briefcase? There are likely to be times throughout your career when it’s easier not to think about saving for retirement, but having a dream can help you stay motivated.
- Start saving ASAP
- Be consistent
- Sign up for that 401(k)
- Take advantage of other tax-friendly retirement funds
- Don’t touch savings
- Control spending
- Save raises and windfalls
- Talk to a pro
- Fall off the wagon? Get back on
1. Start saving ASAP
The numbers speak volumes.
Save a meager $2,000 a year, every year from age 25 to 65 and you’ll have $559,562, assuming earnings grow 8 percent annually.
But wait until you’re 35 to save that same $2,000 every year and you’d wind up with less than half — $245,000 — at age 65, assuming earnings continued at an 8 percent clip.
No wonder financial pros will always tell you the best thing you can do for yourself is to jump on the savings bandwagon as early as possible.
“The 20-somethings who start their
That message holds true even if you’re long past your twenties. The more you delay, the more opportunity you squander.
How is that? Well, much of the answer lies in something called the Rule of 72. This refers to a thumbnail estimate of how long it would take for investments to double given the rate of your investments. To understand how this works simply divide 72 by an interest rate and you get the time it takes for money to double. For example, say you had $1,000 that compounded interest at 9 percent a year. Under the Rule of 72, you’d have $2,000 after 8 years. If $1,000 compounded at 6 percent, it would take roughly 12 years to double your money.
The important lesson here is that you want to have as many opportunities during your lifetime for your money to double. Just look at some simple math. If you have $100 that doubles three times you end up with $800. ($200 to $400 to $800). If it doubles one more time, you end up with $1,600. In other words, it’s those final years when the doubling really packs a punch.
If your head is swimming, don’t panic. The numbers are just meant to show you why procrastination is such a costly and life-altering mistake. So, scrape together what you can and start saving today. You’ll add more in the future. And chances are, once you’re off and running, you’ll wonder what took you so long to begin.
2. Be consistent
Sounds easy and obvious. But 30 percent of workers have never saved a dime for retirement. Don’t be among them. Once you make a commitment to save, stick to it, socking away consistently throughout your career.
Says Dick Bellmer, chairman of National Association of Personal Financial Advisors: “I know it seems simplistic to say but if you put 10 percent of your earnings aside, and if you keep doing that over your lifetime and never stop, you’d have plenty.”
To be sure, steady saving requires an iron will at times. There’s always something vying for your hard-earned dollars, Bellmer says.
“People will tell you ‘I couldn’t save because I had to buy a new car. There was a wedding.’ But there will always be something.”
If you’re likely to give into pressure — or temptation, as the case may be — to spend, switch to auto-pilot and have money automatically deducted from your paycheck to a savings plan.
Don’t have enough to open a brokerage account or don’t have access to employer-sponsored savings plans? That’s OK. Open an account that doesn’t have a minimum-balance requirement. Plenty of online banks now offer them, and some brick-and-mortar institutions offer accounts with zero-minimum-balance thresholds, too. As you amass more and that nest egg begins to grow, you can move your money into higher-paying investments.
3. Sign up for that 401(k)
Now offered by most large employers, 401(k) plans are becoming the savings vehicle for most workers. And, for good reason. These nifty plans allow individuals to save income before it’s taxed (hence the term “pretax” dollars). That lowers the amount you have to pay the IRS. Meanwhile, earnings grow tax-deferred until they’re withdrawn.
Best of all? Many employers will match your contributions. But you’ve got to save enough to trigger this free money. On average, that means saving 6 percent of your salary, according to Profit Sharing/401(k) Council of America, or PSCA.
With so much going for them, the 401(k) should be the first place you save. After all, tax-deferred growth coupled with free matching funds prove a valuable formula for boosting retirement funds. One survey by Employee Benefits Research Institute computed that individuals who saved in a 401(k) plan throughout their careers until age 65 would be able replace between 83 percent up to 103 percent of their preretirement income. Imagine that. No work but potentially the same income. What’s not to love?
4. Take advantage of other tax-friendly retirement funds
When Putnam Investments recently asked individuals over 61 what they’d do differently to prepare for retirement, “saving more money outside employer retirement plans” ranked top of the list. Nearly half — 46 percent — of older individuals who had to return to work within 18 months of retiring said they wish they’d done it. And 38 percent of retirees who stayed out of the work force agreed with that assessment.
Take a cue from those wizened folks-in-the-know and start saving outside of work, too. So-called individual retirement accounts, or IRAs, are a great place to start. IRAs come in different varieties– the Roth, a deductible IRA and a nondeductible IRA — but all have tax advantages so you can maximize savings.
Ed Slott, an IRA expert and author of “Your Complete Retirement Planning Road Map,” likes the Roth IRA best of all because it allows individuals to stash after-tax money, then never owe taxes on savings again. That includes earnings, too. What’s more, unlike other retirement plans, you don’t ever have to withdraw Roth funds since there’s no lifetime required minimum distributions. That means assets can grow as long as you want. You can even leave them untouched for your heirs.
“Everyone should be doing a Roth IRA,” Slott says. “Especially for younger workers — create a tax-free windfall forever.”
Take note: You must meet certain income requirements to fund a Roth. (For singles, eligibility phases out when income falls between $99,000 to $114,000, and for married couples filing a joint tax return it’s $156,000 to $166,000 in 2007.) If your earnings disqualify you, consider a deductible or nondeductible IRA, which will let your earnings grow tax-deferred. However, in 2010, you’ll be able to convert your deductible or nondeductible IRA into a Roth regardless of your income thanks to a new federal law, says Slott.
There’s a reason they tell you not to put all your eggs in one basket. Drop it and you’re out of luck. So, too, with your retirement nest egg. It doesn’t matter how old you are or how big your paycheck is, it’s vital to spread your risk by owning a mix of investments.
“Diversification can be your best friend,” says Ellen Rinaldi, director of investment counseling and research at Vanguard, a mutual fund company. “If the market takes a drop and you’re not diversified, you could take a significant hit that causes you to work longer.”
These days, so-called lifestyle or life-cycle funds make it easy for even novice investors to diversify their investments, says Rinaldi. That’s because they automatically reallocate assets to suit participants’ age or retirement target.
As you get older, and near retirement, you’ll likely need to do more personalized fine-tuning and asset rebalancing to hit your specific goals. For that reason, don’t just rely on the funds to do your rebalancing. Use them as a guide but think about specifics like your personal savings targets, your tolerance for risk and the kind of money you need to save for a comfortable retirement.
Says David Wray at PSCA, lifestyle funds are “a generic solution. For young people they’re a great place to start. But as you get into your 50s, you have to get involved.”
6. Don’t touch savings
Ideally, assets in your nest egg will remain intact and grow well into your retirement. Then again, life is never perfect, and there will be times when you’re tempted to tap into your retirement accounts.
Yep, you can guess what’s coming next.
Don’t! It’s not just the fact that you’ll cut into your overall balance. You reduce future savings potential, too. For example, say you had $10,000 earning 10 percent annually. If you kept the money intact, you’d have $11,000 by the end of the year. Now, let’s say you raid your account and reduce it by $1,000 to $9,000. It would earn $900 by year’s end leaving you with a total of $9,900. That’s a $100 earnings shortfall on top of the $1,000 you took out.
That’s just the beginning. Most retirement accounts — including
The upshot: You may need money badly, but consider other options before turning to retirement savings to bail you out. A home equity loan that comes with certain tax breaks and less rigid repayment terms may be a better choice. If it’s college you need to fund, consider low-priced college loans, a work grant or going to a cheaper institution. Even a second job can wind up being a far better way to address today’s expenses while preserving your savings for tomorrow.
7. Control spending
Dick Bellmer, chair of NAPFA, once had a client who earned well over $600,000 a year but was in debt so badly he could barely write a check for everyday expenses. So Bellmer helped the man consolidate loans and put him a budget that allowed him to pay creditors and get by.
What did the client do with his newfound access to cash? “He bought a boat,” says Bellmer.
An extreme case of a spendaholic? Perhaps. But there are still many of us living way beyond our means. Today, the current credit card balance for those who carry lingering debt hovers between $12,000 and $13,000, according to Consumer Credit Counseling Service.
Those kinds of debts take years, and thousands of dollars in interest, to pay off. According to the Bankrate minimum payment calculator, for example, you’d spend $17,615 in interest and it would take 400 months to be rid of a $12,000 balance if you just stuck to minimum payments and were paying 18 percent interest.
If you’ve got high-cost debts, make paying them off your No. 1 priority.
“The best investment you can make is to pay off the credit card debt,” says Steve Brobeck, executive director of Consumer Federation of America.
You may be able to get yourself free and clear of lingering debt by making minor compromises. Maybe that means eating at home for a few months instead of going out to your favorite restaurant or steering clear of department stores. Or it could require drastic measures like getting a second job or finding a roommate to split the rent.
If you feel overwhelmed, get help. A legitimate counseling service won’t charge hefty fees to negotiate with creditors on your behalf, create a budget you can live with and help you get spending under control. Not sure where to find a reputable firm? Check with the National Foundation for Credit Counseling, a network of accredited non-profit counseling centers, for help near you at www.nfcc.org.
8. Save raises and windfalls
It’s so tempting to fantasize about the next big bonus or an upcoming raise. All that extra cash could buy crisp new clothes, a vacation or other treats. Or, depending on your financial situation, it could go a long way to keeping the kids in diapers and the utility bills paid on time.
Either way, financial pros agree that everyone should try to save as much of their raises as possible. If you’re using windfalls to finance the good life, you’re going to have to work hard to justify why that money isn’t better spent on retirement.
“I think it’s easy for most people to save significantly more than they realize and not have to make too many adjustments in their lifestyle,” says Matthew Greenwald of Greenwald & Associates, a research firm specializing in retirement studies. “How much is that extra pair of pants or that meal? Are they worth it? It’s a question of taking control of your whole life, not just immediate gratification.”
On the other hand, if you really need a fatter paycheck to get by, try to compromise. Save a portion of your raise and make it a goal to gradually increase retirement savings over time. If you have earnings automatically deposited into a
9. Talk to a pro
Recently, the folks at Employee Benefits Research Institute polled working individuals and asked them a simple question. “What would be the most useful thing to help you save for retirement?”
No. It wasn’t a fat salary or winning the jackpot. It was professional advice from professional advisers that ranked No. 1 for more than one out of four respondents, making it the top choice overall.
In truth, there are few of us who will likely have the time or expertise to single-handedly map out our retirement during the course of a career. When we’re young, it’s enough to save as much as possible. But as we near retirement, a planner can help with the kind of personalized financial planning that has a big impact on what winds up in that nest egg.
How do you find that trusted adviser? First, be forewarned that anyone can brand himself a money expert. Avoid a dud by looking for someone who’s earned credentials that indicate he or she has demonstrated financial expertise in retirement-planning issues. For example, a Certified Financial Planner, or CFP, is someone who’s earned credentials by passing exams for the Certified Financial Planner Board of Standards. You can search for one near you at www.cfp.net.
Fee-only planners charge for their time, not by commissions, so they’re a great choice if you just want advice, not someone to manage your assets. Check with NAPFA at www.napfa.org for one in your area.
If you opt for word-of-mouth references, that’s fine. Just make sure you hire an adviser who is trained to deal with clients similar to you. After all, retirement is a personal matter and the advice you get should reflect that.
10. Fall off the wagon? Get back on
The one thing most of us can rely on is being inconsistent. Very few individuals have the discipline to stick to a lifetime of healthy habits, be it consistent exercise, a sugar-free diet or financial willpower. Add the pressures and temptation to spend money and it’s more than likely that even the best-laid plans for retirement get pushed off course.
What to do? Get back in the game, of course. Resume saving. Keep spending in check, and take a look at your retirement goals.
If you’ve taken a long hiatus from saving, or major expenses have drained your accounts, you’ll likely need to reconsider some of the plans you made for yourself.
The good news is, there are opportunities to catch up. Most retirement plans give individuals over 50 a second chance to save more than other individuals. Depending on where you stash your cash that could mean an extra $5,000 or $500 a year, before earnings. Those additional funds can make significant improvements to even the most anemic savings.
So never give up. If you stick to your plan and stay focused on that dream, you will get closer to your goal. And that’s not a bad place to be.
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