Retirement Saving 101 : What, Where and When

Aug 10, 2020Retirement

Saving for retirement is probably one of the last things on your mind right now. We all know that we should start but with so many other things on our plates it tends to get left on the back burner. Let’s take a look at the basics of retirement saving and how you can start today.

Most of us have heard our parents or grandparents tell us about the importance of saving for retirement. “Just put a little away every month from your employer’s retirement program and you’ll be set later in life. It’s that simple.” But if you’re not working or more focused on other aspects of your current life, it can be hard to have the “long view” of something you’ll need 40 or 50 or even 60 years from now.

But they were right as parents and grandparents tend to be when it comes to this sort of thing you can only learn from life experience. When you get that first stable job or are ready to take the next step, putting in as little as $50 or $100 a month into your company’s 403(b) or 401(k) can be that piece that prepares you for later in life.

There are lots of different ways to invest and save towards retirement and here we’ll cover the basics.

Not Saving for Retirement Is a Bad Idea

The worst thing you can do for saving for retirement is nothing. The plan doesn’t’ have to be perfect or highly advanced, the plan just has to begin and the details can be worked out along the way. The younger you start the less money you’ll have to save to prepare for your retirement whenever that may be.

For example, A 21-year-old making $50,000 a year who puts away 10% of their paycheck into a retirement plan (and the typical 3% employer match) will have over $2 million by the time they hit retirement age at 65. This also doesn’t account for other investments, promotions or salary raises, or increasing your contribution percentage either. If they wait until there are 31 to start this retirement plan for the same time period, they’ll have less than $1 million. That isn’t bad but it’s less than half of what they could have if they started earlier.

Start Saving for Retirement Now! Start Today. Start This Minute

When the money you save starts earning interest, then that interest starts earning interest of its own, and that process continues; the snowball effect is powerful. This is known as compounding interest and it’s the main reason starting early will make a huge difference over the course of time. Your interest builds its own interest or your money makes you more money.

Types of Retirement Plans

401(k)s and 403(b)s

401(k)s and 403(b)s are retirement accounts you set up through your employer. The funds come from your pre-tax payroll deductions and the real difference is 403(b)s are only from employers who are non-profit organizations or educations institutions like high schools.

IRAs

Individual Retirement Accounts (IRAs) are retirement accounts not provided by an employer. These are ideal for people who want to save for retirement whose employer doesn’t offer 401(k)s (50% of the US workforce) and is also ideal for self-employed individuals. If you have a 401(k) or 403(b) from your employer however, you can still set up an IRA and increase your retirement savings. The types include SEP IRA (for self-employed individuals), Traditional IRA, and a Roth IRA (using after-tax income).

Each has it’s own setup parameters and benefits but all are great for your retirement and the best option on the table for folks not able to get an employer program or who are not traditionally employed.

Social Security

This is a government-run retirement program for people who pay taxes. You pay your taxes and some of that goes into social security. Either through your personal self employed business taxes or through your company’s payroll taxes taken from your checks. When you retire the government sends you a monthly check based on the taxes you paid over the years. It’s not a bad system despite the endless political debate constantly raging about it, but it won’t be enough to provide a truly comfortable retirement for most people. Who knows how it will work in 40 years either or even still exist. The point is you shouldn’t put all your eggs in the government basket when it comes to anything, especially when it comes to your retirement.

Investing in Stocks

When you’re under the age of 40 you still have quite a way to go until you retire, what better way to spend that time then saving for retirement. Therefore your financial risk is still less when it comes to investing. Even if the economy tanks and the market collapses, there is still plenty of time for it to come back up and stronger. If you look at a graph of the past 100 years on the stock exchange, that curve is ever rising. Sure there are some dips like the great depression and the financial crisis of 2008, but the market recovers and goes higher than it was before. So, even in a financial crisis, you have a lot of time for it to come back with a vengeance.

Investing in high-risk stocks at a young age offers higher profit margin potential. When you get closer to retirement age then you want to move your investment into a less risky investment like bonds. But while you still can safely, push the envelope and go for it.

Don’t Pick Stocks Piecemeal

Playing one stock at a time is time-consuming, incredibly difficult, and carries large amounts of risk, especially when you start to save for retirement. So too is hiring a financial advisor to run your portfolio on a stock by stock basis. Individual investors almost never beat the overall market when it comes to gains and unless you are playing around with millions or billions there are smarter ways to invest in stocks.

There are many smarter options when it comes to investing in stocks. Start by investing in Electronically Traded Funds (ETFs) or other low-cost index funds. How these work is they look at the market as a whole, or segments of the market like the S&P 500 and NASDAQ. This is how you can diversify your portfolio and allows you the option of investing in a wide range of stocks which will help saving for retirement. This way if one area goes down your diversified portfolio will not be entirely in that one specific sector.

Financial investment firms typically offer about 7 different index funds to choose from or target-date funds which self adjust as you get older to reduce your risk. They also have lower fees than other types of funds and that means you keep more of what you earn. There are also AMAIAs (automatically managed investment accounts) which are operated by computer programs and are another smart option with even lower fees.

After You Start Saving For Retirement, Don’t Touch Your Savings

When your retirement plans are up and running and you’re invested into a diverse set of ETFs, your best bet is to leave it be. Take a look or contact your financial advisor two or three times a year (if you have one) to see what’s going on with your assets. Beyond that, let your investments marinate. If you’re watching the market every single day and it tends to go down, this can cause a lot of mental stress. So it’s smarter to “set it and forget it” when saving for retiremtn.

Don’t Cash Out Before You Retire

If you’re facing some financial burdens it can seem appealing to take some money out of your retirement accounts. But there are major problems with doing so. If you’re under the age of 59.5 years you’ll face up to a 10% penalty for 401(k)s and traditional IRAs. Plus your money will no longer be earning interest and that means the compounding interest dies with it. So at all costs do not touch your retirement nest egg until you actually retire. Your life after retirement will thank you.

Start Now

As we said in the beginning the most important thing you can do for saving for retirement is to start saving. Get set up with your employers 401(k) or 403(b) or open an IRA. Then work your way to the stock investment aspect. The point is to get started one foot in front of the other. Just as you’re likely trying to build your credit, you should be trying to build your retirement plan the same way. Little by little over time and eventually you’ll get where you want to be. No one wants to live paycheck to paycheck, especially when they’re retired and are no longer working. Get started today and you’ll thank your young self for incredible foresight when it comes time for you to retire!