The most important thing for saving for retirement..
..is to START
When saving for retirement, time is your biggest asset. On the flip side, time can also be your biggest enemy if you’ve put if off for years.
The sooner you start saving for retirement, the more time the power of compounding can do its magic and the easier it will be to accumulate wealth.
If you’re first starting out in the work force at age 22, a fresh college graduate, considering “normal” retirement age of 65, you would have roughly 43 years to save for retirement.
You would think, “that gives me plenty of time to save for retirement. I can always start later.” And you would be right, but you would also be contributing more on a monthly or yearly basis to reach the same monetary goal the later you start.
For instance, to reach a goal of $1,000,000, you would have to contribute roughly $2,137 a month based on a 6% return for 20 years.
On the other hand, to reach the same goal of $1,000,000 over a 30 year time span, you would only need to contribute roughly $994 a month based on the same 6% return.
The longer you put off saving for retirement, the more you’ll have to contribute to reach the same goal. So, start early!
How much to put away?
Conventional wisdom says to put away at least 10% to 15% of your annual salary towards your retirement savings. That is certainly a great starting point, but as a panda who will live well past the age of 20, I’m anything but conventional, but we’ll get to that later.
Saving for retirement can be any combination of 401k, IRA, taxable accounts, and employer match.
The key to this is ensuring you contribute enough to get the full company match. If you don’t contribute enough to get the company match, you’re essentially missing out on free money.
Since 401k contributions are taken out pre-tax and before you ever really see the money, you probably won’t even miss it being taken out every paycheck. This is considered automated investing (saving for retirement). The money is taken out of your paycheck automatically and invested in the fund(s) you picked.
Typically, I like the idea of putting just enough (perhaps a little bit more) into your employer’s 401k to get the company match. The amount you contribute in addition to your employer’s contribution match can add up anywhere from 6-10%, which is a great starting point to start saving for retirement.
Company 401k plans are generally restrictive in terms of what funds and investments they offer. Fees are also a big downer in many company-sponsored 401k plans, especially for small companies, where the fees could hit 2-3% annually. In my opinion, this is way too much and not worth contributing to a tax-deferred plan if the tax savings is going to be eaten away by annual fees.
It’s better to open up a brokerage account with a similar low-cost fund that doesn’t eat into the earnings and have to pay taxes on the earnings than to lose the annual fees, which takes into account the entire account balance. You’d lose more to fees than taxes would take out of any earnings, so it’s best to make sure you take a look at the company sponsored funds and their returns and their related account fees.
If you’ve decided that you can live with the fees, historic performance, fund goals, etc., of your 401k plan’s offerings, it certainly doesn’t hurt to max out those savings if you can.
Make sure you look at your own individual situation before making any decisions.
Save past retirement accounts
Once you’ve set up your automatic 401k contributions, the next step is to take a look at putting money away in IRAs and/or regular taxable accounts. You can put a maximum of $5,500 in a Traditional and/or Roth IRA per year combined between the two. If you make too much to contribute to a deductible IRA and a Roth IRA, you can read about my take on the Backdoor Roth IRA.
Save as much as you can now, and odds are, you’ll continue your savings throughout your working years. After all, you can’t really miss what you don’t have if you’re saving most of your excess income for retirement.
Another method is to start by automatically putting away 1% of each paycheck, or whatever you can manage at this time into a separate “saving for retirement” account. Then, continue to increase that amount by 1% of each paycheck every month until it starts to hurt financially.
Similarly, you can also put away money for a specific goal (renovation fund, new car fund, etc) by setting up automatic savings.
Remember, the more you put away now, the easier it will be to reach your financial goal, regardless of what it may be.
How much is enough?
There isn’t really a hard, set number as to how much is enough to be saving for retirement, but I like to say as much as possible depending on your own financial situation and goals.
We are probably putting around 35% of our annual pre-tax income into retirement savings, with hopefully a trend towards 40%. This includes 401k contributions, employer match, IRAs, and taxable accounts. We are maxing out one 401k and not contributing to mine due to excessively high account fees (2-3%) and putting the maximum amount into IRAs every year. Plus, whatever is left over from student loan repayment and activities of daily living are put away in a taxable account.
Once my student loan payments are done, I hope to be putting away 50% for retirement to perhaps retire even earlier than 45. *crosses fingers*
You can also take a look at my investment strategy for 2015 to pick my brain a little. It’s probably very basic, but my mind kind of goes a mile a minute and I probably don’t explain it in detail.
There are plenty of savings calculators out there that you can use to see how much and how long you would need to put away to reach a certain financial goal based on a particular annual rate of return.
I highly recommend you do some of your own research before tweaking your own savings contributions.