Joe Foley is personal finance blogger and the author of ‘We Got Outta Debt’, the story of how his family paid off $68,000 in a little over 3 years. His new book, “Retirement for the Ages” is due out in December.
A h the Golden Years. If you’ve saved well, they truly can be Golden, if not so well…. maybe a Silver or Bronze is in your future. Some aspects of how much you save is out of your control. The recession of 2008-09 hit retirement account hard. An AARP survey from 2011 stated that from 2008-2011:
- 25% of Americans 50 and older emptied their retirement savings
- 29% claimed their retirements early due to unemployment
- Many more retirees are carrying debt into retirement
While the cause of this is not in your control, preparing for retirement earlier in life definitely puts you in a better place in case any of these events take place. Planning for a recession is a bit extreme, however planning for unemployment and reducing debt are things directly in your control. How do you do this?
Follow Grandma’s basics.
Create a budget.
Just because the US Government doesn’t have one, doesn’t mean you shouldn’t. A Budget, or “Spending Plan” if you prefer, is where you decided what to do with your money. Knowing what you have coming in and knowing where it needs to go is the basis for your Spending Plan.
Pay off your debt.
I speak from painful experience here. If you have debt, it is DARN hard to save for Retirement. We were $68,000 in debt and had very little in retirement savings. Once we made the decision to get out of debt, things dramatically changed. As an extreme measure, we took all of our monthly 401k deposits and focused on paying down our debt instead. For a short term, this is fine. But as soon as we finished that debt, we jacked up our Retirement Savings. All of that money that had been spent on paying down debt, was refocused to retirement! If you can avoid being in debt, you are SO much farther ahead! If you are in debt, calculate how much per month you pay on that debt.. then hold that amount until later in this article.
Pay yourself first for both Retirement Savings and a Rainy Day Fund.
As part of your Spending Plan, pay yourself first! Whether it’s a focused effort on an Emergency (aka Rainy Day Fund) or splitting with Retirement, set up a payroll deduction to one of these (or both). Taking the Direct Deposit/Investment route allows you to invest/save without seeing the money. It’s like putting it on auto-pilot. Most companies will allow you to set up Direct Deposit and for those with Retirement plans, that’s an added bonus
When to invest?
When you start your job, or when you read this, is the perfect time to start investing. As a young investor, time is on your side to having your investments grow. That Compound interest is a really cool thing! For example, if you start at age 30 and can contribute $15,000 per year, at 7% return on your investment, you’ll have amassed $1,000,000 by the time you turn 55. Take a look at this spreadsheet for the example. (Feel free to make a copy of it for your own use)
How to invest?
The IRS allows for a maximum of $17,500 per person for 2014 in 401(k), Roth 401(k) and other retirement accounts, with the Catchup of $5,500 for those over 50. If your company doesn’t offer a 401(k), then you’re allowed $5,500 in an IRA ($6,500 for the 50+ crowd).
Included in your Spending Plan would be an amount put aside for retirement. Let’s assume that your company has some type of match for your contribution. If so, then you should contribute as much as you can up to that match. For example, your company matches up to 5% of your contribution.
For every $200 per pay period you contribute, they kick in another $200. Over the course of the year, you put out $2,400 (assuming payment twice a month), and the company puts out $2,400 for the year. Doubling your investment to almost $5,000 in just one year isn’t all that bad, is it?
There will be some companies who don’t match, or match at a fraction of the dollar (50% up to 6%), but it’s FREE money. In our $200 per period example, the company would match $1,200 for the year giving you a total of $3,600. So, darn, you’d only increase your savings by 50%. Still worth it, in my humble opinion.
Not enough $ here? Take that amount you used to pay on debt, and add that to this example. How’s that now? Much better, right?
What to invest?
Thanks to the power of Compound Interest, the longer your investment period, the better you can do. It also provides you with more time to recover from ‘mistakes’. Whether that mistake is the 2008-11 recession, or buying Apple stock just BEFORE it dropped in value. Time is on your side. Even though you have time, a conservative approach would be an indexed mutual fund.
Yes, you can do much better with a hot stock, but you can also lose your shirt. If you’re in your 20’s, remember here that you have time. If you’re in your 50’s, not as much time. I’ve balanced my portfolio to be a mix of 4 types of Mutual Funds. Typically, I hold on to them for longer periods to time, and check them quarterly for rebalancing. I’ll use one of the low cost provides, Vanguard or Fidelity, for my funds. The general categories I use are:
- Growth & Income
- Aggressive Growth
I’ll also periodically use another Google Spreadsheet that pulls information I want to see about Fund choices. (Feel free to make a copy for yourself).
Where to invest?
I have both a 401k through work and an IRA. As such, I have two different accounts at two different institutions. I’ve found it easier to consolidate as much of my financial accounts as possible, and have rolled over old 401k accounts into a single IRA. With the 401k, I’m constrained by the selection of my employer. But I can open an IRA at any place I choose. I typically don’t mind doing the research and selection myself, but if you’re hands-off, or don’t have the time, finding a good financial planner will help you both with selection of investments and their management. Keep in mind, the costs here will be more than if you do it yourself. The Google Fund spreadsheet from above, will also show you the impact of fees on your investment. Food for thought.
As with all advice, you should check with a Financial Planner. Your situation is going to be different than mine, and different than your neighbors. These decisions are important ones, and if this article has shown you anything, it’s a starting point for your investments. Personally, I went to 3 different advisors to get their input, and all 3 asked different questions that I hadn’t considered. Even if you go it alone, like I have, it’s worth the time to have them ask those questions.
If you’d like to be notified when my new book is published, please follow this link to my page where you can let me know!
Kim’s Comments: I am always amazed at how compounding interest works and how much fees can play a part in the big picture. It’s very important to pay attention to the details when planning a long term strategy.