We all want the ability to retire at some point in our lives. While the definition of retirement may be different for some of us, we want financial freedom when we are older to do what we want.
Young professionals today should plan to pay for their own retirement. Pensions are going away, social security might not be around when we retire, and we can’t count on anyone else to take care of us. The only way to have a secure retirement is to plan for it yourself. The best way to have a secure retirement is to start working on it today.
One of the most important things you can do in retirement investing is starting early. Because of the time value of money, getting started younger can make a huge difference.
Think about it. Over the last few years, the 15 year annualized return of an investment in the S&P 500 would have been between 5.28-7.87%. At 6%, that means a $100 investment today will be worth $864 in 2050.
However, what happens if you make that $100 per month for the next 37 years. Your principle investment will be $1200 per year, or $44,400. At a conservative annual return of 6%, the future value when you retire will be $163,131. That is the value of starting early.
Take Advantage of Employer Benefits
We all know that it would be impossible to retire on $163,131. To make up for what we really need to retire, we have to factor in more investments. One way to invest more is to simply save more. That is easy enough, but we can only save so much, that is why employer contributions are so important.
At my job, I get a 100% match when I invest up to 4% of my annual salary into the company sponsored 401(k) plan. For someone who makes $50,000 per year, that would mean the company will give you $2,000 free if you invest $2,000 into your retirement. That is taken evenly out of the 26 paychecks per year, so less than $77 per paycheck leads to $2,000 in free money per year.
Invest that over the same 37 years and you are looking at even bigger gains. Whatever you do, make sure to take 100% advantage of your employer’s contribution for a retirement account. If you don’t you are leaving free money on the table.
Take Advantage of Tax Benefits
On top of the money you put in and invest, you also get big tax savings from using retirement accounts. An employer 401(k) or 403(b) or a traditional IRA allow you to invest pre-tax. If you are in the 25% tax bracket and invest the $4,000 above, half of which was free money, you are also lowering your taxes by $500 per year. Over 37 years, that is $18,500 saved in taxes.
For young investors like me, I suggest a Roth IRA ahead of a traditional IRA. With a Roth IRA, your investments are after taxes, so you don’t save the $500, but your withdrawals are tax-free. If your investments go up more than 25% before you retire, which they most certainly will, you are better off doing that.
At the end of the day, there is one common thread between all of the advice on saving for retirement. Just do it already. Stop delaying. Increase the amount you save if you can. Make your money work for you, stop working for your money.
Your retirement will be here faster than you realize, and you don’t want to be one of the millions of people each year who wish they had saved more.
I put a lot of money away each payday. Through my 401(k), company match, and Roth IRA contribution, I put away 19% of my work income for retirement. That is in addition to other investments and savings. How much do you contribute to retirement each month? Do you think you will have enough saved up to retire when you are ready? Please share your stories in the comments.
Originally written October 21, 2008. Updated January 25, 2013. Image by Tax Credits / flickr.