Saving for retirement is important. Whether you are 25 and just getting started in your career or are 35 and finally realizing the importance of creating a security net, it is never too early—or too late—to start saving.
There are thousands of books related to retirement and investing, but there are a few basic things you should know and discuss with your accountant and portfolio manager before the time comes to invest. Prior to walking into their offices, you should have answers to the following questions:
- What are your savings goals?
- When do you expect to retire?
- What types of investment accounts do you currently own?
- Which investments are you looking to keep in the future?
- How much are you saving from each paycheck?
- Does your employer offer 401(k) matching?
- How do you plan to pay your taxes when you retire?
Though this list of questions may seem overwhelming, there are a number of things to keep in mind as you begin to consider saving for retirement. Taking these factors into account can help you establish a realistic plan that will bring you happiness and success both during and after your career.
1. Plan for a Long Retirement
While it is more difficult to save the amount of money necessary for a long retirement, many of us hope to live long, healthy lives, which requires a good nest egg. But with only 3 percent inflation per year, your income can lose more than 25 percent of its purchasing power over the course of 10 years. This terrifying reality means that only putting away enough to cover your expected retirement years at your current income level may not be sufficient.
2. Hold Off on Taking the Lump Sum
Since you will likely be placed in a lower tax bracket after you retire, you can garner significant tax savings if you wait until the January following your retirement to take any lump sums.
3. Consider Health Care Costs
Leaving your company will also mean losing your health care coverage. While those who retire in their late 60s can take advantage of Medicare, those who retire at a younger age will have to figure out another way to gain coverage—or be prepared to foot the entire bill. More health issues usually come with age, so health care can be much more expensive than anticipated after retirement.
4. Save for Taxes
Shockingly, nearly 32 percent of all household costs incurred after retirement are due to taxes, so make sure that your investment and savings accounts can provide you with a safety net during tax season, if needed. You should also consider opening a Roth IRA well before retirement so you avoid paying taxes when you make withdrawals; this money can help to cover property taxes and any other fees that may cost more than expected.
5. Save More Than You Need
Though it was once recommended that working individuals save enough to cover 70 to 90 percent of their income for their retirement years, longer life expectancies, inflation, and higher medical costs have led to a new recommendation: Saving around 126 percent of pre-retirement income for each year of retirement is now the suggested amount to set aside.
6. Invest in Both a Roth IRA and a 401(k)
Having a 401(k), especially when your employer offers 401(k) matching, is a great way to save for retirement. This type of account has the additional benefit of providing tax deductions while you make contributions; however, you will have to pay taxes whenever you withdraw money. Meanwhile, a Roth IRA does not provide tax deductions during your working years, but it does offer tax-free withdrawals when retirement rolls around, provided that the age and time requirements are met. Unlike other plans, a Roth IRA does not require minimum distributions to be made at the age of 70.5, either.
7. Start Early (If You Can)
Opening retirement accounts early allows you to take advantage of compounding interest and to save more money with less of an investment on your end.
For instance: If you set aside $1,000 every year between the ages of 25 and 35 but stop altogether after that, the $10,000 investment you made can grow up to a whopping $113,000 by the age of 65 (granted you can get your hands on a 7 percent interest rate).
Conversely, investing the same $1,000 each year between the ages of 35 and 65 with the same percent of earnings per year will only grow your $30,000 investment to around $101,000.
8. Make Contributions Early in the Year
Contributing to your retirement accounts early in the year can help you maximize your tax-deferred earnings, allowing you to keep more money in your pocket and diversify your assets.
9. Diversify Your Portfolio
Stocks and bonds are great ways to save for retirement, but they are not the only options. You should also consider investing in real estate or precious metals if you are willing to make the extra effort. While these kinds of diversifications may not provide the best returns for the average person, they can be extremely helpful for those who invest the time and effort to make it worth the money.
If you are looking for simpler ways to diversify, subtract your age from 100, and invest that percentage of your portfolio in equities (like stocks) and the rest in low-risk bonds.
Stocks are generally more risky but provide a better return when they perform well. As you age, it is important to consider this risk and balance it not only between different forms of investment, but also between the companies you choose to own stock of. Think about reducing the overall risk as you get older, stepping away from the volatile Internet and biotech stocks and investing in utility stocks, which have less risk and higher dividends.
While bonds are often considered a safer bet, keep an eye on them, too; if they only generate 2 or 3 percent of a yield, then they are not an ideal investment, but if interest rates rise, the bond can actually lose value.
If you are not fully comfortable choosing your stocks or are looking for a more stable bet, choose mutual funds, which are collections of stocks, bonds, or cash equivalents. Many mutual funds even diversify across all three categories, taking some of the hard decision-making out of the equation.
10. Think Ahead
It is now recommended that retirees have five years of uncovered expenses in cash or cash equivalents, just in case the stock market crashes or unexpected expenses arise.
Along with this cushion, having 10 to 16 times your current salary tucked away by the time you retire is suggested if you plan to retire at age 60. This number, of course, will be higher depending on the age at which you plan to retire. Starting to save early can drastically improve your chances of meeting this goal by retirement, but remember: Any savings is a step up from no savings at all.
More and more retirees are beginning to work part-time jobs to help them live the lifestyle they would like, so think about your retirement plans before stressing too much about how you will save. Having a plan will also help you maintain a happier life; given that a good portion of our social networks are often tied to our workplace, having so much time on your hands can take a toll on your mental state if you are not prepared for it.
Planning for retirement is both an exciting and scary endeavour, but it is not something most of us can afford to not think about. Planning ahead, getting help from investors and accountants early on, and diversifying your portfolio can save you from unplanned expenses, unexpected market fluctuations, and anything else life may throw at you—ensuring a happy retirement when the time comes around.