There is no shortage of retirement saving advice out there, but do you find it's hard to find advice relevant to your situation when you need it? If so, this guide should help.
Here are a couple of basic ground rules to this guide:
- This is not financial advice for the rich and famous. As much as financial professionals like to write about the more exotic vehicles and tactics out there, those things have no relevance for most people. This guide is focused on the important fundamentals ordinary wage earners can apply. So, if you are looking for the latest thinking on private equity or offshore tax havens, this isn't the guide for you – but if you are in those markets you probably have advisors who do that kind of research for you anyway.
- Financial advice changes as you go through life. The moves you need to make as you approach retirement differ from those that make sense when you are first starting your career. For ease of reference, this guide is set up by decade of age, providing suggestions for people in their 20s, 30s, 40s, 50s, 60s, and 70s.
Retirement saving for people in their 20s
Between modest starting salaries and student loan burdens, it may not seem that people in their 20s can make much headway towards retirement savings. However, the key at this phase of your career is to set up some good financial habits that are oriented towards saving. In doing so, you should at least be able to take the first baby steps towards retirement savings. Here are some things you should be doing as you transition from school to the workplace:
- Know your student loan terms. You know that student loan debt is lurking out there, so better make a plan for dealing with it. Don't be depressed by the sheer amount of it – the whole point behind a loan is to take an overwhelming sum of money and spread it out into manageable payments. Know what your payments are and when they start. Also understand any programs that can ease this burden. For example, federally-backed student loans – and most student loans are backed by the federal government – allow you to sign up for a plan that will limit your payments to 10 percent of your income. This should make your debt burden very manageable even if you are not making much money yet.
- Implement a budget. Financial success does not happen by accident – it takes planning, Eventually, that will include some long-range retirement planning, but for now just make sure you are in control of your spending from month to month. Budgeting doesn't just help you manage your money, it helps you hang onto more of it by allowing you to minimize charges that result from overspending, such as overdraft fees and credit card interest.
- Leave room for saving money. When you create your budget, don't just include the obvious bills you have to pay, such as rent, food, and utilities. Those things are necessary, but they involve paying other people. Also leave room for paying yourself by allocating some of your income to savings. If you devote a percentage of your income to savings from the very start, then it will seem less jarring to gradually increase your savings as your income grows.
- Set up direct payroll deposit into a savings account. One way to make sure a portion of your pay actually makes it into savings is to have your pay directly deposited into savings rather than a checking account. You can still move some money from savings into checking for easier access, but doing this rather than having all your pay go directly into checking will encourage you to transfer only a budgeted amount. Meanwhile, this will allow your savings to start earning interest sooner than if you had to wait until you transferred accumulated money from your checking account.
- Establish – and safeguard – credit. Some people go a little overboard when they first get access to credit in their early 20s, and can spend years paying off the results of overspending. More cautious people shy away from using credit, almost to a fault. The best course for long-term financial health is somewhere in between the extremes. Use credit, but be sure to pay it off on time and in full. Responsible use of credit will allow you to establish a favorable history that will make it cheaper to borrow money when you need to later, such as when you buy a house or a car.
- Find banks that do the most for you. As you set up your banking relationships, be mindful of the fact that banks offer very different account terms. For example, most checking accounts these days charge a monthly maintenance fee just for having an account, but there are still some checking accounts that don't charge those fees so it's worth looking around (here's a tip – your chances of finding free checking are much better if you look at online banking). Also, savings and CD rates can vary from one bank to another, with some banks offering several times as much interest as others. Consider what you need from a bank, and then look for accounts that offer you those services on the most favorable terms.
- Sign up for your employer's retirement plan. Retirement may seem to be a long way off, and early in your career you might not have much spare money to devote to long-term saving. Even so, if your employer has a 401k or similar plan, sign up to direct at least a token amount into that account automatically. Having money go directly from your paycheck into a retirement plan is a great way to start the savings habit, and it may make you eligible for matching contributions from your employer, which is basically like getting free money.
Retirement saving for people in their 30s
As you get a little older and your career starts to gain some traction, it is time to get serious about retirement saving. Here are some moves to consider:
- Use retired debt to jump-start retirement savings. If you've been paying off a student loan, you are used to doing without the portion of your paycheck that's been going towards those payments. Once the loan is paid off, use the amount that had making those payments to add to your retirement savings. You won't miss money you haven't been able to use anyway, and now at least those payments will be going towards your future rather than to the loan company.
- Maximize your employer's retirement contribution match. Ideally, you should be working towards contributing the legal maximum to your 401k or other retirement plan, but at the very least you should be contributing enough to get the full amount of employer matching contributions. Otherwise, you are leaving money on the table that you have a right to.
- Consider augmenting your employer's plan with an IRA. Once you start maxing out your 401k contributions, you may be able to supplement those retirement savings with an Individual Retirement Arrangement (IRA). Be sure to check eligibility limits, which are subject to income ceilings. Also, keep in mind that money going into any retirement plan, whether it is a 401k or IRA, is a long-term commitment. If you take money out before you reach age 59 1/2, you will pay a 10 percent penalty on top of any normal income tax liability.
- Decide between a traditional and a Roth IRA. The basic difference is that with a traditional IRA you can deduct your contribution and not pay taxes on the account until you start to draw money out of it. With a Roth IRA, you pay taxes upfront but then the money can grow tax-free and you will not pay taxes when you start drawing money out upon reaching retirement age. To a large extent, the choice comes down to judging whether you are likely to be in a higher or lower tax bracket when you retire than you are now. Since many young adults are still earning relatively low wages, it may make sense to choose a Roth IRA while you are still in a low tax bracket.
- Do some preliminary retirement planning. The most important thing is just to start money flowing into retirement savings, but at some point in your 30s you should use a retirement calculator to do some projections to figure out how much you will need to save so you can afford a comfortable retirement. After all, you can't hit a retirement target if you don't know what that target is.
- Bring retirement contributions up to speed. Once you have figured out some preliminary retirement saving targets, work out a plan to bring your contributions up to those targets. If money is tight now, a good method is to devote a healthy chunk of future wage raises to retirement savings. That way you won't feel as though your take-home pay is taking a step back when you boost your retirement deferrals.
- Get investments in line with your time horizon. As savings start to build up, you need to give more thought to how to invest those savings. Given the long time until retirement, the majority of your investments should probably be in long-term, growth-oriented assets like stocks.
- Re-evaluate your banking relationships. Periodically, take a fresh look at your line-up of bank accounts. This is to make sure they are still competitive, and because as your financial situation changes, what you need from a bank might also change.
Retirement saving for people in their 40s
OK – no more excuses. As you enter your 40s, you should be hitting some of your prime earning years, plus you are getting ever-closer to retirement age. It's time for your retirement saving to shift into high gear.
- Re-calibrate your retirement targets and your life style. Just because you did some retirement planning when you were younger doesn't mean those targets will still fit your plans in your 40s. You now know more about your earning ability and your life style than you did when you were in your 30s, so it is time to update your retirement plan.
- Consider switching to a traditional IRA. As mentioned in the section for people in their 30s, the choice between a traditional and a Roth IRA largely depends on whether or not you are currently in a high tax bracket. As you move into your 40s and your earnings improve, you may find yourself moving into higher tax brackets. This may justify holding off on any further Roth IRA contributions in favor of starting a traditional IRA.
- Adjust contribution levels annually according to progress. It is important to recognize that retirement planning is not an exact science. One of the most undependable variables is the investment returns you earn on your savings. Be sure to check progress towards your goals at least annually, so you can boost contributions to catch up if your investment returns have been disappointing. It is important to make these adjustments before your retirement savings get too far behind schedule.
- Don't back off if you get ahead of schedule. A big mistake people made in the late 1990s was to go slow on their retirement plan deferrals because the stock market was performing so well that they were able to build wealth without having to sacrifice much of their paychecks. Unfortunately, those missing contributions from the prosperous years would have come in handy during what has proven to be an extended period of disappointing market returns during the 21st century. If a good investment year puts your retirement savings a little ahead of schedule, don't take it as a sign to coast. Keep up the contributions, and view the extra returns as a cushion against potential disappointments in the future.
- Consider using a Health Savings Account to accumulate long-term savings. If you have hit the limits for 401k and IRA contributions, you can accumulate additional tax-advantaged savings via a Health Savings Account (HSA). To be eligible you have to be participating in a High Deductible Health Care Plan, but unlike what many people think, money in an HSA does not have to be used exclusively to pay plan deductibles and other immediate health care expenses. Money in an HSA can continue to grow tax free, and you don't even have to pay taxes on it when you start to withdraw from the account, as long as the money is used for qualifying medical expenses. Given that health care is a major expense in retirement, you should be able to put your accumulated HSA money to good use eventually.
Retirement saving for people in their 50s
You're getting into the home stretch of your career now – which depending on where you stand in retirement saving might mean you can start to take it easy or that you have to pick up the pace. Here are some things to do at this stage:
- Check your progress towards targets. Given all the variables involved in retirement planning, the passing years represent a considerable amount of time for things to get off track. As time goes by, it is important to keep re-checking your progress to see if any remedial action needs to be taken.
- Take advantage of “catch-up” contributions. Once you reach age 50, you may be eligible to make so-called “catch-up” contributions to your retirement plan. These are additional contributions over the usual dollar limits that applies to younger contributors. For example, for 2017 people aged 50 and over at the end of the calendar year can contribute an additional $6,000 to a 401k plan, or $1,000 to an IRA. This is an important extra tax benefit that older workers should try to utilize.
- Embrace a key benefit of age – discounts. People in their 50s often feel young enough to want to resist the idea of aging, but there are certain aspects of it you should embrace – namely discounts and special deals. From preferred pricing on many purchases to no-fee checking accounts, there are a number of money-saving offers that you will become eligible for in your 50s.
- Reassess your retirement time horizon. By now, you will be in a position to know a lot more about how much longer you will want – or need – to work. This is based both on how you feel physically and emotionally, and on your financial condition. If you now plan on retiring significantly sooner or later than originally planned, your retirement plan will have to be adjusted to reflect this new time horizon.
- Consider when to adjust your asset allocation. As people approach retirement age, they often start downshifting to a more conservative asset mix. You may not be ready to do this just now, but based on your planned retirement age you should start anticipating when to begin this transition.
Retirement saving for people in their 60s
This a transitional decade for many people, as they pass from active careers to part-time work or retirement. Here are some steps that process entails.
- Plan for when to access Social Security. You can start receiving Social Security benefits at any time between age 62 and age 70, and the longer you hold out the bigger your benefit will be – though of course, it will also be received over fewer years. When you should apply to begin receiving benefits depends on your immediate needs, of course, but it also depends on your health and your marital status.
- Make a sustainable plan for drawing on retirement savings. Beyond Social Security, you may have other retirement savings that you will start drawing upon in your 60s. Since you don't know how long you are going to live, come up with a plan that draws on these savings at as sustainable a rate as possible, so you don't use them up to quickly.
- Consider career extension options. Some people have a need to keep working, while others have a desire to. Think of things that might help you extend your career, such as a downshift in responsibilities, cutting down on hours, becoming an independent contractor, or perhaps tapping into an entirely different skill set.
- Look into switching back to a Roth IRA if you are continuing to work. If you switch from a full-time career to a part-time job, the resulting drop in income may place you in a lower tax bracket. If you are continuing to contribute to an IRA, see if the tax bracket change means that switching to a Roth IRA makes sense at this point.
Retirement saving for people in their 70s
At this point, your emphasis has probably shifted from building savings to preserving them. Here are some moves to help preserve your retirement savings through your 70s and beyond.
- Set up required minimum distributions. Most tax-advantaged retirement plans require that you start taking at least a minimum amount out of the plan by age 70 1/2. Make sure you are set up to meet this requirement, but remember, just because you are required to take the money out does not mean you have to spend it. If the required minimum distributions exceed your immediate needs, preserve the money as after-tax savings, because you might need it in later years.
- Make sure investments are aligned with liquidity needs. As you start to draw money out of retirement plans and other savings, make sure that money is invested in things that will provide sufficient liquidity when it comes time to make your withdrawals.
- Research long-term care and payment options. Later on, should you need to enter an assisted living or managed care facility, you will find these arrangements can be very expensive. It pays to plan ahead, because it is much easier to gain admittance to such facilities when you are still able to pay for it yourself than if you become dependent on Medicaid.
- Set up a burial trust. Becoming eligible for additional government assistance generally requires that you first draw your savings down to a minimal amount. A burial trust is exempt from this requirement, and so allows you to provide for your funeral without leaving the burden to family and friends.
While young adults often assume retirement saving is primarily a concern for older people, notice how there are more new moves to make in your 20s and 30s than later in life. This is typical of the fact that the earlier you start retirement savings, the more options you have for positively impacting your future. Start now, and then stay on the path as you move through your career.
Author: Richard Barrington
Richard Barrington, CFA, is a 20-year veteran of the financial industry, including having served for over a dozen years as a member of the Executive Committee of Manning & Napier Advisors, Inc.