They’re Not Called the ‘Golden Years’ Because They’re Cheap

A really happy couple sailing around without a care because they saved a lot while working.Now that the summer has flown by, the kids are back and school and we head into fall, it’s a great time to reflect on our financial futures.

For most people their number one financial priority (maybe number two after kids’ college) is retirement.  So are you ready for retirement?  Unfortunately most people aren’t.

First, let’s touch on Social Security.  People ask me on a regular basis, “Will Social Security be here when I retire?”  The short answer is that I have no idea.  The long answer is that “will it be here” is the wrong question.  The better question is “will it be enough”, and that is an easy question to answer for most people.  No, it probably won’t be enough.  According to the Social Security Administration, the average monthly benefit in 2013 was $1,294.  For most people this monthly benefit will only cover their most basic needs.  Without some other source of income, many retired people will be required to work past their desired retirement date.  Something else will need to fill in the gap between Social Security and the retirement you want, when you want it.

For the lucky few a pension may provide the additional retirement income needed.  However, pensions are becoming much less popular, which means most workers will need to save money for retirement while they are working.

How much money you have when you retire depends on three things; 1) investment return, 2) time, and 3) amount set aside.  Having a plan that addresses these three factors is critical to achieve your goal of a happy retirement.

To some extent you can influence your investment return.  Higher risk assets should yield higher returns, but at the risk of losing retirement principal.  Lower risk assets come with more (perceived) safety, but also reduce your expected return.  A properly diversified portfolio with an asset allocation appropriate to your risk tolerance and ability should always be the target of your retirement savings.  The investment portion of your plan should be updated as you age and should reflect the amount of time until you retire.

Timing has a huge impact on your retirement nest egg.  When I speak of timing I am not talking about timing market advances and declines.  I’m talking about when you start saving and how long you save.  The question, “When should I start saving for retirement” is a very simple question.  The answer is TODAY!!  Not tomorrow, not next week, not when you get your bonus, not after the credit cards are paid off, not when you get back from Las Vegas, TODAY!!

Assuming you’ve already begun saving, or you will begin saving TODAY, the other factor that will contribute to how much money you have in retirement will be how much money you save while working.  So how much should you save?  Another pretty easy answer, as much as you can, but no less than 10% of your gross wages.  The amount of money you put aside each year can have a dramatic impact on your retirement balance when you retire.  Let’s look at a situation where Joe and Sue are both the same age and would like to retire in 20 years.  They both invest exactly the same and they both get a 7.5% return.  Both of them contribute at the same time each year (they took my advice and started TODAY).  The only difference between Joe and Sue is that Joe saves $5,000 a year and Sue saves $10,000 a year.  Here’s what their balances look like as they rush towards retirement.

Joe and Sue are both savings, but Sue is saving more and she will see it when she retires

Notice that Sue put aside $105,000 more than Joe ($5,000 extra today plus $5,000 extra each year), however when they retire Sue has $254,000 more than Joe.  This will make a big difference in Sue’s retirement.

So how should you save?  First, if you have a 401k at work and your company will match your contribution, put aside enough to get the full maximum employer contribution.  After that, put aside some more, aiming for 10%.  If you don’t have a 401k at work (or in some other situations when you do have a 401k), put aside money in an Individual Retirement Account (IRA).  Both the 401k and the IRA will have tax advantages now since they both lower your adjusted gross income for taxes. If you are self-employed there are a host of other retirement programs you can take advantage of.

Also, be sure to save money in a non-retirement investment account.  If you haven’t hit the age of 59.5 and you withdraw money from a 401k, IRA, or other retirement accounts you may be hit with a penalty in addition to the taxes that will be due on the distribution.  It’s important to have some investments that will be available before retirement.

There’s no reason you can’t have the retirement you desire.  If you can commit to a clear, well thought out strategy, you’ll be more likely to experience the “golden” in your golden years.