How to Save for Retirement, Even If You're Starting Late
To help make up for lost time, learn expert advice and find all solutions the government offers to begin planning your retirement today.
Retirement is a milestone we all dream about, and ideally, we'd like to reach it as soon as we can.
But while planning for retirement is one of those things we all know we need to do, it somehow still gets pushed to the back burner.
Monthly expenses get in the way of saving, and day-to-day tasks and family responsibilities tend to take priority over something that seems so far away.
If you don't have a retirement plan, you're not alone:
- According to recent research from the Economic Policy Institute, nearly half of all working-age families have zero retirement savings—that's 38 million households without any money saved toward retirement.
- Two-thirds of working households that are within ten years of retiring have less than one year's salary saved.
- According to the Employee Benefit Research Institute, less than half of workers have even calculated how much they need to save for retirement.
But if you don't start saving for retirement, you may find yourself struggling financially after you retire—or you may be unable to retire at all.
Your lack of planning ahead will not just affect you severely, but it will also likely impact the lives of your family and children. Who wants to be a burden?
The good news is, just like it's never too late to say thank you or to try something new, you can start saving for your retirement at any age.
In fact, the US government increases the amount you can set aside for your retirement the older you get and allows you to declare less income as a result (lowering your annual taxes).
And because so many people are saving less than they should for retirement, the government has created some special incentives to help you make up for lost time.
If you know what options are available to help you out, you can make an effective plan to retire comfortably.
First Things First
You first have to consider your financial situation
It's worth noting that maxing out your retirement savings isn't always the best plan.
Saving for retirement can require some careful planning—and occasionally some penny-pinching—but it shouldn't cause you serious financial strain today.
These financial obligations should take priority over your retirement plan contributions:
- Paying off high-interest debt
- Paying home, auto, and health insurance premiums
- Establishing an emergency savings fund
Failure to get any one these important safeguards in order could result in a financial setback that could make planning for retirement a distant dream.
How can you plan for retirement, if all your money is going to credit card interest or hospital bills?
Get these important boxes checked and then you're ready to start saving for retirement.
How Much Do You Really Need?
Determine how much you really need to retire comfortably
It's easy to underestimate how much money you need to save for retirement and that could leave you scrambling to make ends meet when you should be kicking back and enjoying your golden years.
One easy way to gauge whether you have enough saved is to simply calculate how much money you currently earn.
Experts typically recommend budgeting for 70 to 90% of your current annual salary.
So if you make $72,000 per year now, you'll need between $50,400 and $64,800 per year of retirement.
The total amount you need to save depends on your current age, the age you plan to retire, and your current income.
If you start saving a little later, or want to retire a little earlier, the amount you need to save will change.
Say you're 50 years old, you make $40,000 per year, and you haven't saved a penny so far.
According to the calculator at CNN Money (see a list of tools below), if you plan to retire at age 70, you'll need to have around $623,000 saved.
But if you can buckle down now, at 50 years "young," and start putting 20% of your income towards retirement, you can retire at age 72—not too far off track! with $626,229.
If you know where you stand, you'll know what you need to do to catch up.
And best of all, there are solutions to help you get there faster.
Free retirement calculators to help you make a plan
Here are a few calculators that can help you figure out how much you need to save to stay on track for a worry-free retirement:
- Retirement Savings Calculator | Kiplinger
- Will You Have Enough to Retire? | CNN Money
- Retirement Planner | Creditloan
The Government Has Options
Take advantage of the tax breaks and savings plans supported by the government
According to the Bureau of Labor Statistics, 69% of workers have access to a retirement plan in the form of a 401(k) through their employer (don't worry, we'll explain what a 401(k) is).
Good, they should.
If your employer doesn't offer a retirement plan option, you may be discouraged from saving at all.
But you don't need to rely on your employer to get you started on the road to retirement!
Even if you don't have access to a 401(k) plan at work, the federal government recognizes and encourages investment options to help you get a tax break on the money you sock away for retirement:
IRAs Are Your New Best Friend
Better known as "IRAs," Individual Retirement Accounts let the money you save and invest grow tax-free.
There are two types:
You can contribute pre-tax or after-tax income to this account, and you'll get a tax deduction on anything your contribute.
Your money grows tax-deferred meaning when you withdraw it, you'll be taxed on your earnings at your current tax rate at that time.
(And since your income bracket is usually lower after you retire than it is while you're working, that's a good thing.)
You contribute to this account using after-tax income in other words, the income you've already paid taxes on.
You won't get a tax deduction now on the money you contribute, but the upside is that your money grows tax-free — you won't have to pay taxes on anything you withdraw after age 59-1/2.
Let's Talk About Your 401k
401(k) plans are employer-sponsored retirement plans
A 401(k) is a retirement plan sponsored by your employer that the IRS recognizes as a way to help you save.
Contributions are pre-tax — the money is taken out of your paycheck before you ever see it — and like a traditional IRA, your money grows tax-deferred.
But while anyone can set up an IRA, you can only set up a 401(k) if you're one of the 69% of workers who have access to a 401(k) through their employer.
There are two key advantages to a 401(k) if it's available to you:
1. The contribution limits for a 401(k) are typically higher than IRAs — simply put, you're allowed to save more money each year.
2. Some employers offer a matching contribution — for example, if you contribute $1,000 to your 401(k) this year, your employer would contribute $1,000 as well, doubling your savings.
No matter which type of retirement plan you choose, the key benefit is the same — you can score tax breaks on the money you save, so you're not just gaining interest, but also losing less to taxes.
"How is this possible" you may wonder. Well...
How to save for retirement and pay less taxes
Say you're currently in the 25% tax bracket, and you know you're able to set aside $10,000 this year for retirement.
If you take that $10,000 home in your paycheck and put it in a regular savings account at the bank, you'll be taxed at your usual rate—25%, or $2,500.
So you end up with $7,500 to put in your savings account.
If you contribute that $10,000 pre-tax to a 401(k) or traditional IRA instead, you'll have the full $10,000 in that account.
You'll be taxed on it when you withdraw it.
For the sake of making the math easier, let's pretend the money doesn't grow at all (But it would! Keep reading to see how.)
If you withdraw it when you're 70 years old, and at that point, you're only in the 15% tax bracket, you'll only be taxed $1,500 — so you'll have $8,500 in the account.
You just saved yourself $1,000. Congrats!
But it gets even better!
An individual retirement account can accrue money quickly — so your original $10,000 investment will be worth more, and you'll get taxed at a lower rate (as long as you leave it untouched until you reach retirement age).
So if you invest that $10,000 in a retirement plan when you're 50 years old, and the money earns an interest rate of 5% compounded annually, it'll be worth $26,532 by the time you're 70.
No matter what tax bracket you're in at that time, you're going to end up with way more than the $7,500 you'd have if you put the money in a bank account!
These plans enable hard-working savers to invest money pre-tax, and your money can steadily grow until you're ready to kick back and retire.
There is a catch, however. But it's a light one.
You can't withdraw money from an IRAs or 401(k) until you're 59-1/2 years old without incurring a cash penalty.
And you can't just let the money sit there forever.
To avoid fees, you'll need to start withdrawing money from those accounts by the time you turn 70.
Don't let the threat of fees scare you — any fees you pay if you need to withdraw early pale in comparison to the financial strain you'll feel later if you don't have any retirement savings.
Make Your Money Work For You
Be certain the money you're socking away for retirement is working for you
Putting your money into an IRA is only the first step. An IRA is simply a type of account the money doesn't earn interest until you invest it.
So if you just stick your money into an IRA, it's like burying it the backyard — that money won't grow, which defeats the purpose.
After you set up an IRA account, you need to take a few simple steps to invest your money:
Assess your risk tolerance. There are plenty of quizzes online to help you with this, like this short-and-sweet one from Wells Fargo.
Decide the best asset allocation for you.
How much of your money do you want in stocks (more risk, but more opportunity for growth) versus bonds (low risk, but slower growth)?
Choose your portfolio.
Ask a professional. If this is all Greek to you, a financial planner can help you get started.
Fortunately, choosing an investment strategy has gotten easier and easier with the help of new technology.
Investment companies, like Charles Schwab and Betterment, allow you to easily create an IRA and buy a mutual fund or ETF, for example, that will grow over time.
Will Your Company Match?
If you have a 401(k), see if your company will match what you save
It's worth repeating: Some companies will match employee contributions to a 401(k).
This is an incredible opportunity, to double your contribution, especially if you can max out your contribution.
If your employer offers a 401(k) matching program, here's how to make the most of it:
Max out your personal contribution. For 2017, the employee contribution limit — the max amount you are allowed to contribute personally is $18,000.
Find out if your employer matches.
In 2011, 42% of employers offered a 401(k) matching program.
Some employers offer a dollar-for-dollar match. Others will match a percentage of your contributions. Either way, it's free money.
Read the fine print. Some employers put restrictions on their matched dollars — for example, your company might have a 5-year "vesting schedule."
That means if you quit the company after two years, you may only be entitled to 40% of what the company contributed to your 401(k).
(Don't worry, you're always entitled to 100% of what you personally contribute.) But don't let this scare you away from investing — again, even if you only get 40% of the employer match, it's still free money.
No matter how much or how little you can comfortably contribute to your 401(k) right now, it's still worth setting up, especially if your employer matches a percentage of your contribution.
With employer matching, you not only get tax breaks from the government, but you get a generous contribution from your company.
Talk to your employer about how soon you can set up your 401(k) and whether they offer matching contributions.
Use Multiple Accounts
Maximize your time and your money by putting savings into multiple accounts, not just one
"Diversify, diversify, diversify!" There's a reason you hear the money big-wigs touting this advice.
There are caps on how much money you can contribute to each type of retirement account, but you can have more than one account, which lets you save (and earn!) even more.
For example, while IRAs cap annual contributions at $5,500, you can put an additional $18,000 into a 401(k), provided your total income is below $117,000 for single filers and $184,000 for joint filers.
That's a total of $23,500 per year you can begin to grow tax-deferred.
In just four years, following this strategy, you'll have over $100,000.
Yes, you will have to pay taxes when you withdraw the money — but thanks to compounding gains, you'll likely have significantly more money in your account than you originally invested and be taxed at a lower rate than your current tax bracket.
Think of it as a tax-free loan from Uncle Sam.
Get That Ball Rolling
Play catch-up if you're over 50 years old
So if you're quickly approaching retirement and you haven't saved a dime, are you doomed to work for the rest of your life?
Nope — in fact, if you're strategic, you can still save six figures over the next 20 years.
The IRS allows people over 50 to contribute a higher dollar amount to their retirement accounts.
It's the government's way of helping late-bloomers play catch-up.
For an IRA, the cap of $5,500 rises to $6,500.
It might not sound like a lot, but that extra thousand dollars each year invested at 5% grows to $35,000 after 20 years!
For a 401(k) plan, the numbers are even more impressive.
The 2016 limit of $18,000 rises by $6,000 for savers over 50. Applying the same math, the incremental $6,000 allowance swells to $214,000 by age 70.
Looking at a total allowable 401(k) contribution of $24,000 per year for 20 years invested at 5 percent, a 50-year-old starting with zero savings would have $857k by age 70.
Of course, not everyone can afford to send $24,000 (or even $18,000) to their retirement savings each year.
For the average American, that's a pretty significant chunk of their total income. But the numbers above show how quickly compounding interest can add up to big savings.
Say you make $50,000, and you can set aside 5% of your income to your 401(k) — that's $2,500 per year or just over $200 per month.
Assuming an annual return of 5 percent, that'll add up to about $85,000 saved in 20 years.
(For comparison's sake, if you put that $2,500 per year in a bank account, in 20 years — best case scenario — you'd have about $50,000.)
If you can swing it, take advantage of catch-up contributions to maximize your savings over the next decade or two.
But even if you can't take advantage of this incentive, don't be discouraged — any amount you start saving now will add up faster than you might expect. It's never too late to start.
There's no time like the present when it comes to retirement
Retirement isn't just something everyone looks forward to — it's something everyone deserves.
But if you don't start planning for retirement, you may have to put those dreams of laying in a hammock with a good book on hold.
Fortunately, everyone can save for retirement with a little planning and effort — and while sooner is always better, it's never too late to start.
Figure out how much you can start saving each month, and research the investment options and tax breaks available to you.
No amount of money is too small when you make a smart investment — and in 20 or 30 years from now, you'll have plenty to smile about.
If you want to learn more about retirement and get started saving, then you'll love these articles:
- 16 Steps To Filling Up Your Emergency Fund
- 13 Insanely Smart Ways To Save For Retirement
- 12 Common Investment Mistakes & How To Avoid Them
What advice did you find the most surprising or unexpected? Let us know in the comments below.