Have you given some serious thought to how you would like to retire? Or a better question might be, when do you want to retire and what do you want your retirement to look like? Do you know where you’ll live? Do you plan to sell your home and purchase an RV? Have you thought about the lifestyle you’d like to live?
If you’re young, retirement may seem like it’s so far away. But, it is exactly that time and distance that is your biggest asset.
For example, if at age 25 you put away $5000 a year, by the time you’re 65 you'll have $1,068,048 based on a 7% return. If you wait until you’re 45, you'll only have $219,326.
Presumably, you’d rather retire with a million dollars or more, right? That’s the most significant benefit and reason to start planning for retirement right now, today. If you wait even another year, you’re losing money.
When it comes to saving money, investing, and having compounding interest do its thing to get you a positive return, time is not on your side.
Because when you wait, it cost more to save more.
Let’s say that you decide that you can’t save $5000 a year right now. You think that saving that much money will be more manageable in ten years because you’re just getting started. Maybe you’re paying off student loan debt and saving for a house.
You’ll just wait to start saving for retirement. You’re losing half of that million dollars that you could have had.
In fact, if you wait until you’re 35 to start saving, your retirement fund at age 65 will be $505,365.
And I’m sorry to say that life probably won’t get much easier ten years down the road.
You’ll always have expenses and demands on your finances.
Start now, create the habit of saving for retirement, and know that when it comes time for you to retire, you’ll have it all taken care of.
Today, I’m going to share with you some key fundamentals to help you lay the foundation needed to begin planning for your retirement.
What you’re about to learn will get you thinking in the right direction, especially when consulting with various financial experts as they help you with the planning process.
Let’s do this…
Remember the Tax Advantages
When you contribute to a qualified benefits plan, you’re reducing your taxable income by the number of your contributions.
If you contribute the maximum amount allowed for you and your chosen plan, then you pay taxes on a smaller income.
That my friend is what we call a win/win situation!
When you begin retirement planning early, you maximize your savings by simply taking advantage of time.
Remember what I said earlier?
When you wait, it cost more to save more and time is not on your side.
You also ensure you’re not losing money by starting early.
Finally, you cut your tax liability by investing in your own retirement. It’s a pretty good deal and one to start focusing on right now.
On that note, let’s start by taking a look at how much you have to save to live the retirement life you want.
How Much Do You Need to Save?
This is the Million Dollar Question and its one that people often need help answering.
Essentially there are two steps to this process. They include envisioning your retirement and then using an online retirement calculator to crunch the numbers and figure out what you need to save.
The answer will help you create your retirement plan. You’ll know how much you need to save, then you’ll simply have to figure out how to save it.
Let’s start with the first step of that process, envisioning your retirement.
We actually touched on this step already when the following questions were posed:
- When do you want to retire and what do you want your retirement to look like?
- Do you know where you’ll live?
- Have you thought about the lifestyle you’d like to have when you retire?
If you’re not sure what the answers are, it’s time to start thinking about this. Envision your retirement and start creating an idea.
Maybe you don’t think that traditional retirement is for you. Perhaps you figure you’ll retire at age 75 or so, and work part-time to keep busy.
Or perhaps you’re thinking that early retirement sounds pretty darned good to you and you’re looking to retire around age 55.
Start by writing down what you want your retirement to look like. Grab a notebook and a pencil; it’s time to start planning.
Yes, I said a physical notebook and pencil, doing so allows you to activate the Right-Side of your brain, known as the creative side.
The next step is to use one of the hundreds of online retirement calculators. Before you start searching or head to your bank’s website, let’s take a look at the information you’ll need to know so you understand the questions, and the answers, beforehand.
The Age You Start Saving – This is the first question that a calculator is going to ask and it’s an easy one to answer. How old are you right now? The goal is to have you start saving this year, right now, because waiting works against how much money you’ll end up with.
The Age You’ll Retire – This is a little bit more difficult because it’s asking you to predict the future. That’s okay, this doesn’t have to be set in stone. Think of it more as a guideline. When do you want to retire? The traditional age is 65 but you may have different goals. Don’t stress, because you can change this number accordingly.
Income Saved Annually – Sometimes this is a percentage of your income and sometimes they’re looking for an actual dollar amount that you’re going to save every year. If you’re asked for a percentage, then know that somewhere between 6% and 12% of your income is usually recommended. Grab a calculator and crunch the numbers. If you make $50,000 then 6% of that is $3000.
It’s recommended that you save the maximum that your tax plan allows. This is generally $5000, so you might increase your savings to 10% to save the maximum allowed before taxes. You can of course save more; it just won’t be deducted from your income on your annual tax forms.
Annual Salary Growth – This is looking for you to predict the future again. The idea is that your salary is going to increase over time and it’s represented as a percentage. A general rule of thumb is a 1.5% increase annually.
Salary Replacement in Retirement – How much of your current salary will you live on in retirement? This is expressed as a percentage. For example, if when you retire you’re making $65,000 and you estimate that you can live on around $50,000 a year then you’d report that number as 75%, which is actually $48,750 annually. If you think $55000 is more reasonable then you’d use 85% as your calculation.
Life Replacement – Get out that crystal ball again and take a deep long look into it. How old will you be when you die? It’s a morbid question but it’s an important one. If you retire when you’re 65 and you live until you’re 95 you’re going to need a whole lot more money than if you live to 85. Look at your existing health and your family history. The average life expectancy for women is 81 and for men is 76. My wish is that you live to be over 100 years old and in perfect health.
Expected Rate of Return – Is your crystal ball still on? Good. How much do you expect to earn on your savings? You might be scratching your head here because you have no idea what’s possible. My best advice is to aim a little low. If you earn a higher return rate, you’ll have more money. Most experts recommend aiming for about 6%, which can be a little low, but it is a safe estimate. For best practices, it’s always a good idea to be conservative when you’re number-crunching.
Inflation Rate - You might be asked for this. Not all calculators ask for it; they might assume an average rate. If you’re asked, the recommendation is to choose a rate that’s 2 or 3 percentage points less than your expected rate of return. If you chose a 6% return rate then you might choose a 3% inflation rate.
Spend some time crunching the numbers on your retirement calculator of choice. You can head to any bank or financial website and find a calculator.
Or do a quick search for the best retirement calculators. Find the number that tells you what you have to save each year to reach your retirement goals.
It may be a number that seems completely reasonable or you may find yourself sitting at your computer in shock.
In the next section, we’ll take a look at how to set a budget so that saving for retirement is easy and relatively painless.
Then we’ll take a look at your different retirement savings options.
How to Set Up Your Budget and Save for Retirement
Many people avoid the word “budget.” They experience feelings of restriction and denial when they think about creating a budget.
If this feels familiar to you, a shift in mindset is necessary. A budget is nothing more than a system to control your money instead of it controlling you. That’s it.
It’s a tool for you to make sure your money is going where you want it to go. It’s like the FDA’s food pyramid for your money.
With the food pyramid you know you’re allotted a certain number of calories each day to maintain a healthy weight, and those calories need to be divided up into food groups.
A budget is the same thing. You’re allotted a monthly salary and that salary needs to be divided up into your priority expenses.
Find a budgeting tool that you’ll actually use. If you’re a paper and pen person, then create or download a budget template. If you like to use software applications then find a good one online or download an APP on your mobile phone.
Your bank or credit card company may have a budgeting tool you can use for free. Or find a great app that you like.
The first step when creating a budget is to make a list of your expenses. Because you’re saving for retirement and because it’s a priority, that expense needs to go near the top of the list.
You know how much you need to save each year to reach your goal.
Divide those annual savings by 12 months and you know how much you need to save each month.
For example, if you’re saving $5000 a year then that’s $416 each month. Work through your budget, making sure that you leave a little for an emergency fund and for discretionary spending.
The next step, and one that makes sticking to your budget much easier, is to automate as much as possible.
Make transfers from your checking account into your IRA savings account an automatic monthly transfer.
That way you make sure that your savings are taken care of before you spend any money.
You might find as you’re working through your budget that your paycheck isn’t going to cover your expenses as you’d hoped. Or maybe you’re left with less discretionary spending than you’d like.
In the next section, we’ll take a look at some easy and fun money-saving tips so you can tighten your budget and save more while still enjoying your life.
Nine Tips to Save More Money And Spend Less
The little habits you’ve developed over time have a significant impact on your budget.
There are probably a few things that you can identify immediately that will save you anywhere from $20 to several hundred dollars a month.
While you probably know that you can downsize your home and your car, it’s the small things that add up.
Let’s look at the most common little things that impact your monthly budget.
Coffee - The daily run to the coffee shop costs you about $150 a month. Consider investing in a good coffee machine at home.
You can buy amazing gourmet coffee at your local market. Invest in a good grinder if you like fresh ground. After the initial investment in the coffee machine and grinder, you’ll save about $120 a month or more.
Gourmet beans cost about $15 a bag; you can of course buy pre-ground non-gourmet coffee and which costs around $8 a bag.
That savings on coffee can be put directly into your retirement savings account or it can be the discretionary income that your budget may be lacking.
Lunch with Co-Workers – Your daily trip out of the office may be something that you look forward to. However, you don’t have to eat out to get out of the office. It’s easy to spend $5 to $10 a day on lunches. That’s a minimum of $100 a month if you only eat fast food.
If you head to a sit-down restaurant then you’re looking at a savings of $300 or more.
Start taking your lunch four days a week. Walk during your lunch break or head to a park to eat your lunch.
Once a week you can treat yourself to a restaurant meal. You’ll save anywhere from $100 to $200 a month.
You’ll probably lose weight too since you’re not eating fast food.
Grocery Shopping – Make a list when you go grocery shopping and only buy the items on your list. It’s too easy to impulse shop when you don’t have a list and impulse shopping is expensive.
Use coupons when you shop, buy from the circular and according to what’s in season, and consider going meatless at least once a week.
Meat is often the most expensive item on the shopping list.
Clothing – Have you ever noticed that the stores are about three months ahead of the season? For example, the back-to-school season which usually includes sweaters and long pants begins in August.
You don’t need those clothing items until late September or even October when the air begins to cool off.
Wait a month or two and buy clothes off-season; you’ll save at least 20% off of your clothing bill and sometimes even more as retailers look to clear the old stock to make room for new items.
Phones – If you still have a landline, get rid of it. There’s no reason to spend money on two phones and you probably wouldn’t dream of getting rid of your cell phone.
Speaking of cell phones, consider getting rid of your contract and going with a prepaid phone.
Prepaid phones are much cheaper and you only pay when you use your phone and often your minutes and data rollover.
No Impulse Buys – Make a promise to yourself that you will only buy items that you absolutely love, and give yourself time to decide if you love it.
If, after a week, you still love the item and believe it will add quality and value to your life, then go back and buy it.
Water – Start replacing soda and other bottled drinks with water. And not just any water, but water from your own tap.
If you don’t like the taste of your tap water or the quality is bad, buy a filter for your faucet, buy a water bottle with a filter, or invest in a reverse osmosis device.
It’s better for the environment, better for your health, and certainly better for your budget.
Your Car – Is your car payment killing your budget? Take a look at how much you spend on your car and don’t forget to look at insurance rates.
Used cars are cheaper to insure and they don’t come with a high monthly payment.
Consider selling your car if you have high monthly payments. Buy a used car and take good care of it.
You’ll need to set aside some money for maintenance and repairs, but you’ll still come out ahead in the long run.
Free Entertainment – Finally, look for opportunities for free entertainment. Enjoy free concerts, and free festivals, and check out free days at your local facilities.
Saving money isn’t difficult. There are probably some clear-cut areas in your daily and weekly routine that can be reduced.
It doesn’t mean you have to live without it. You can treat yourself to the weekly coffee, lunch with friends, or splurge.
A spending plan simply ensures that you have the freedom to make those decisions and still have enough in your account to meet your savings goals.
Now that you have a solid plan on how to make your budget work and you know some simple ways to cut back, let’s take a look at the two most popular types of retirement savings plans - the IRA and the 401(k).
IRA stands for Individual Retirement Account. It’s an account that you open on your own, unlike a 401(k).
There are several different types of IRAs to consider, including:
- Traditional IRAs - You pay the taxes when you withdraw the money in retirement.
- Roth IRAs - You pay the taxes on the front end, when you earn the money, but not when you withdraw it.
- SEP IRAs – For self-employed individuals.
- SIMPLE IRAs – For small business owners and self-employed individuals.
Each type of IRA has eligibility requirements including income requirements, and they have caps.
Let’s take a quick look at the difference between Roth IRAs and Traditional IRAs because they’re the two most common.
We’ve already mentioned that there’s a tax difference between the two. With a Roth IRA you pay taxes on your earnings, but you don’t pay taxes when you withdraw.
Traditional IRA plans tax your withdrawals in retirement.
Roth IRAs do allow you to withdraw your contributions without paying a penalty, unlike traditional IRAs.
However, with a Roth, you'll be penalized for withdrawing any investment earnings before age 59 ½, unless it's for a qualifying reason.
The qualifying reasons are important because they’re often reasons that finances can become derailed.
Being able to borrow from your IRA without a penalty is protection that many can’t resist.
The qualifying reasons include paying for:
- College expenses for you, your spouse, your children, or even your grandchildren.
- Medical expenses are greater than 7.5% of your adjusted gross income.
- A first-time home purchase. You can borrow up to $10,000 without penalty.
- The costs of a sudden disability.
Note: If you convert money from a traditional IRA into a Roth IRA, you can't take it out penalty-free until at least five years after the conversion.
Most people don’t know that Traditional IRAs require you to start making withdrawals called "required minimum distributions" after you reach age 70 ½.
Roth IRAs don’t have this requirement. Additionally, you can’t make contributions to a traditional IRA after you have turned 70 ½. A Roth IRA lets you contribute as long as you’d like.
Look into your options and compare. Even if your company offers a 401(k), an IRA account is a good idea to save for retirement.
Next, let’s look at the basics of 401(k) plans.
Understanding 401(k) Plans
A 401(k) plan is a retirement plan that your employer provides. You decide how much you want to contribute to the plan and your employer takes that amount out of your salary, before taxes, and puts it into the account.
You also get to decide how you want your money invested, within limits. Your employer’s plan will have a selection of investments for you to choose from.
You decide how you want to spread your investments and risk. You might wonder, in this age of job-hopping, what happens to your account when you leave.
The answer is that you keep the money and the account. You might roll it over into your new employer’s plan or you can roll it into your IRA. There may be some fees and penalties depending on how you choose to transfer the money.
The most important thing you can remember and a mistake to absolutely avoid is cashing out the account.
Don’t simply close the account and pocket the cash. First, you’ll pay penalties on the money. You’ll also set your retirement savings back by much more than you can imagine.
Remember, $5000 a year when you’re 25 can turn into a million when you’re 65. Don’t throw away the opportunity of time and compound interest.
Many employers also offer what’s called employer matching or a matching contribution.
This means that they contribute a certain percentage of your salary or your contributions to your account. For example, if they offer 50% matching then they might put in 50 cents for every dollar you contribute up to a predetermined limit.
This is free money; please take advantage of it. If your employer offers a 401(k) plan, use it.
If they offer to match, maximize it. Contribute as much as you need to get the full employer-matching contribution. Don’t let this free money go to waste.
Other Employer Plans
There are other employer plans that work much like the 401(k). The only difference is that the organization of the company is different. For example, a 403(b) plan is for employees of public education and most non-profit organizations, and 457s are for state and municipal employees.
You don’t have to choose one. You can, and probably should, have both an IRA and a 401(k) unless you’re self-employed.
Having the accounts is the first step. You then have to decide how to invest your money.
The first consideration is how much risk you want to take with your money.
Let’s take a look at the concept of investment risk next. There are some general rules of thumb that make it much less confusing than you might imagine.
Understanding Investment Risk
Risks, when it comes to investing and saving for retirement, are the measurement of the likelihood that you may lose money on your investments.
Investment risk is often described as aggressive versus safe investing. There are many factors that contribute to your investment risk decisions.
When you’re younger, you may be willing to take more risks with your investments. You might be willing to invest in new companies or in industries that may be a bit volatile.
With high risk comes the potential for high reward. It’s not a smart approach if you’re nearing retirement and will need your savings to live on soon.
An example of low risk is a bank savings account. They’re FDIC insured and you won’t lose your money.
You won’t make much in interest, but your money is safe. However, if you have 30 years before you retire, then a bit of risk is okay.
The more you spread your investments out, the less risk you incur. You’ve heard the phrase, “putting all your eggs in one basket,” right? If you invest all of your money into one stock for example, and that company goes under, you’re going to lose all of your savings and investments.
However, if you invest in three different stocks, some bonds, and maybe a mutual fund or an exchange-traded fund, then if one investment struggles, you still have your other investments to lean on.
This Diversification is simply known as “Asset Allocation.”
Finally, the last aspect of risk is time. The longer you have to invest and save, the less risk you incur. You have time to recover from a bad market or a bad year.
If you wait to begin saving for retirement, you’re taking the biggest risk of all – you’re risking your retirement. You may not have enough to retire and keep in mind, it may be difficult to find a job when you’re 75 because age discrimination is a real thing.
Where to Get Investment Help and Advice
As you begin looking at the various investment options available to you, you might begin to feel overwhelmed.
Suddenly a seemingly simple concept, save for retirement, seems like a gigantic puzzle and you don’t have all the pieces.
Take a deep breath and relax. There are places and people you can go to for help.
For the DIYers
If you’re the type of person who likes to do things yourself, then start digging into the various options your investment company provides.
For example, let’s say that you started an IRA with your local bank. You’re going to be choosing from their investment options. If you’re looking at mutual funds, for example, then they should provide you with the manager of the mutual fund and all of the businesses involved in that fund.
You can research the success history of the fund manager and the companies. If you’re looking at stocks, go to the company website and research their track record.
If you’re investing in your company’s 401(k), the same is true. They should provide you with enough information about each investment option that you can do some digging and research on your own.
If you’re still confused, there are a number of online learning courses and books that break investments down to the basics.
You’ll still want to research each company and investment option to make sure it’s the right decision for you.
And relax a little. If you find that the company isn’t performing as you’d hoped, you can always modify your investments.
Hire a Pro
The other option is to hire a professional to guide you. You can look to a professional accountant to offer advice or a financial advisor.
There are different types of financial advisors so it’s important to do a bit of research to find an advisor that has experience working with people in your income bracket and with your unique needs and goals.
Keep in mind that financial advisors charge a fee. It’s usually a percentage of your portfolio. However, this fee may be worth the peace of mind you get when you lean on an expert for help.
Whether you choose to go it on your own or decide to work with a pro, it’s important to make sure your savings are on track.
Next, we’ll take a look at how to track your retirement savings progress, and then we’ll take a look at a few tips to get started with your retirement investing.
How to Track Your Retirement Savings Progress
As you begin saving for retirement it’s vitally important that you check in from time to time to make sure you’re on track to achieve your goals. In addition to checking in on your investments at least annually to make sure they’re performing as expected, also consider evaluating the following:
Are You Saving Enough?
If your salary has increased, it’s important to make sure that your retirement investment increases as well.
Keep in mind that the recommended percentage of your salary that you should invest is between 6% and 12% and that there are tax incentives for maximizing your contributions.
Review your budget and your monthly and annual investments to make sure you’re saving enough.
Has Your Spending Declined?
This question becomes more important as you near retirement. The goal is to be spending 75% or less than your salary. So if you make $50,000, when you retire you’ll spend only about $37,500 annually.
Beginning to decrease your spending before you retire will help you naturally ease into this lifestyle.
That means paying off your mortgage, your student loans, and credit card debt as well as any car loans. Begin eliminating expenses. It not only helps you save more, it also helps you transition nicely into a retirement lifestyle.
Take advantage of every opportunity you have to save for retirement. Maximize your employer contribution and your tax-free IRA contributions.
Make sure the money you’re setting aside accurately reflects your savings goals and that your investments are performing as expected. Saving for retirement doesn’t require a monthly check-in; however, you should review the information at least once or twice a year to make sure your money is working for you.
Let’s wrap it up by looking at the five steps you need to take to begin your retirement investing today.
Beginning Your Retirement Investing – Getting Started
The first step to planning your retirement and beginning to invest is to know what your options are.
Does your company offer a 401(k)?
Do you have an IRA?
These are the two most basic and fundamental investing devices.
Once you’re aware of your options, the next step is to decide how to use them. That means you need to know how much you want to save and what your retirement will look like.
You may want to use a retirement calculator tool here to help you create a realistic savings plan.
It’s a good idea to create a budget here so you can accurately assess how much you can afford to save each month. You can look for opportunities to reduce your expenses and increase your savings.
Make sure to set aside money for emergency savings account if you don’t already have one. This will prevent you from having to go into debt when those inevitable financial emergencies pop up.
It also prevents you from having to borrow from your retirement savings, which can have very negative results.
Automate as much of your savings as possible. If you don’t have an IRA, open one with your financial institution and set up automatic transfers.
Initiate them the day after you normally get paid so you make sure you’re saving every month.
Review your investment options and do some research, or talk to an expert to learn the best investment approach for your age and retirement goals.
You can fund the account without goals so don’t let indecision stop you from opening your retirement account.
Finally, create a plan to review your investments and retirement savings at least once a year. Make sure you’re making the most of your investments and your money.
Track your investments and look for opportunities to save more and spend less.
It’s never too early to begin saving for retirement.
Remember, the younger you are, the more you have the asset of time on your side.
Older folks have to be a little more aggressive because they have less time to invest.
Start envisioning your perfect retirement today and take the necessary steps to make it happen.
Retirement isn’t what it used to be. Your grandparents, and perhaps even your parents, probably worked for one company for most of their life.
They had a nice 401(k) or pension and retired at age 60. They collected social security and life was good.
That’s not the case anymore. Most people will work for a number of different employers over their lifetime and they may spend some time working for themselves.
And most people start saving much later than they should. This means that the rules for retirement have changed.
Here are a few things to consider:
You’re on your own – Much more than ever before, and you’re entirely responsible for your retirement.
Pensions and social security aren’t something you can rely on in your old age. It’s up to you to save for your retirement.
It’s not complicated, but it does require planning and a course of action that you can and will follow through on.
You might retire later – Many people are realizing that retiring at 60 or 65 just isn’t going to happen.
Not only do they not have enough money to retire, but people are also living longer.
Additionally, it’s not uncommon to find seniors that prefer to work, at least part-time. Not just because they have to, but because they want to.
The concept of retirement is beginning to change.
What Do the New Rules Mean for You?
You have some important decisions to make. It’s time to begin thinking about how you want to retire.
What are your goals?
What does your retirement life look like?
It doesn’t matter if you just graduated from college and are starting your first job or if you are in your forties and just beginning to think about retirement - goals are essential.
From there you can create a plan that will help you live the retirement life you envision.
One of the biggest challenges that people face today is not having enough money to save or invest, even those that hold down full-time jobs.
If you’ve been searching for ways to make extra income, you may want to consider starting an online business.
There are several business models that you can make successful by putting in 1 to 2 hours per day if you’re able to remain focused and committed to the process.
There’s no such thing as a “Get Rich Quick” business model, no matter what anyone tries to sell you on because if the business was that easy, everyone would be a raging success.
Starting an online business could provide you with more money to put towards your investments, which will give you a larger return because of the bigger balances.
Well, I’ve provided you with a solid foundation that educated you on the basics of how to plan for retirement.
Of course, retirement planning can be a complex process and I do recommend enlisting the help of financial experts to help you navigate the waters to avoid becoming shipwrecked.
Good luck with your planning for your retirement!