How to Start Saving for Retirement
It’s never too early or too late to start saving. Find out how to choose a retirement plan, create a savings goal and more
It’s easy to dream about all the things you’ll do in retirement. But figuring out how to save enough to make those dreams a reality can feel daunting. There’s a lot to consider. Which type of retirement savings account should you have? How do you know how much you need to save? And where do you start?
If you feel overwhelmed, you’re not alone. Many people have a hard time saving for retirement. But learning a little more about different kinds of accounts, tips on saving and how to create a savings goal can help you get started. And talking to a qualified financial professional is always a good idea, too.
Types of Retirement Accounts
There are many different types of retirement accounts. And each one has rules and regulations for things like contributions and withdrawals. Some of those rules were relaxed or changed in response to COVID-19 but only temporarily.
Here are the basics about some of the most common types of retirement savings plans.
A 401(k) is an employer-sponsored retirement plan. With a traditional 401(k), you can automatically contribute a percentage of your paycheck before it’s taxed. And you won’t have to pay taxes on your contributions or earnings until you withdraw funds from the account. A Roth 401(k), on the other hand, is funded with money that’s already been taxed. So qualified withdrawals are tax-free.
In some cases, your employer may match your 401(k) contributions up to a certain limit. But there might be a vesting period before you can access the employer-matched funds.
You get to choose how your 401(k) is invested. Depending on the provider, you may have access to a menu of investment options to pick from. And you may even have access to free financial guidance through your provider. All plans and providers are different.
Keep in mind that there are limits to how much you can contribute to a 401(k) per year that might depend on your age. If you leave your job and need to transfer money out of your 401(k), you can likely roll it over into an individual retirement account (IRA).
There’s typically a 10% penalty if you withdraw money from your 401(k) before age 59½. But there are certain situations in which you don’t have to pay the penalty. And the penalty is waived for eligible withdrawals made from January 1, 2020, through December 31, 2020, because of coronavirus legislation.
403(b) plans are a lot like 401(k) plans and are also employer sponsored. But they’re offered by public schools and certain tax-exempt organizations. You may have heard 403(b) plans referred to as tax-sheltered annuity plans or tax-deferred annuity plans.
Contributions to traditional 403(b) plans are tax deferred—just like they are with traditional 401(k) plans. That means you don’t have to pay taxes on the contributions or earnings until you withdraw funds from the account.
Under normal circumstances, 403(b)s also carry the same 10% penalty on withdrawals made before age 59½, unless otherwise specified. And they have other rules and regulations to be aware of.
Individual Retirement Accounts (IRAs)
A traditional IRA is a self-directed retirement plan—meaning it’s not sponsored by an employer. Contributions to a traditional IRA are tax deferred. And like employer-sponsored plans, there are limits to how much you can contribute to an IRA per year and regulations about withdrawals.
Traditional IRAs have income thresholds that determine who can contribute to the account. And you can now contribute to a traditional IRA after the age of 70½.
Unlike traditional IRAs, Roth IRAs are funded with money that has already been taxed. That means that qualified withdrawals are tax free. And similar to traditional IRAs, you can now contribute to a Roth IRA after the age of 70½.
Choosing Between a Traditional IRA and a Roth IRA
How do you choose between a traditional IRA and a Roth IRA?
“Choosing between the two usually involves a consideration of your current tax rates, expected growth of the assets in the account and your expected future tax rates,” Nuttall explains. “If you feel your taxes will be lower in the future, you might opt for a traditional IRA. If you feel your income taxes may be higher in retirement, a Roth may be more advantageous.”
It’s also important to note that coronavirus legislation temporarily changed some of the rules and regulations about IRAs, too. And these temporary changes might affect things like your contributions and withdrawals.
There are also many other kinds of retirement savings plans. And different plans work for different people. If you’re not sure what type of plan fits your needs, you can learn more about them or talk to an expert for advice.
Tips on Saving for Retirement
Everyone’s retirement savings plan will look a little different. But there are a few tips that might be able to help you—whether you’re just starting to think about how to save for retirement or you’ve been saving for years.
Take Inventory of Expenses and Spending Habits
One way to start is to record everything you spend in a month. You can use a spreadsheet, an automated online tool or an old-fashioned pen and paper. Just make sure to include occasional expenses—like vacations—that might only pop up a couple of times a year.
Create a Savings Goal
The U.S. Department of Labor says that you’ll likely need about 70%-90% of your preretirement income to maintain your standard of living after you stop working. This can be a good rule of thumb for some people. But according to United Income’s research, for aging households, spending decreases about 2.5% every year. That equates to about 20% over a 10-year period.
Social Security might contribute to your retirement income, but remember to also account for inflation. And other factors like health, income, where you live, your education and property values can affect your spending habits and how much money you’ll need in retirement, too.
If you need some help creating a goal, there are online tools that can help you estimate how much you’ll need to save. And if you want more personal guidance, talking to a qualified financial professional can help.
Maximize Your Savings
If your employer offers to match your 401(k) contributions up to a certain limit, Nuttall recommends taking full advantage of that offer.
“If you can afford to contribute the maximum to get your employer’s match, you should generally do that, as it’s ‘free’ additional compensation from your employer,” Nuttall says.
It’s a great way to get the most out of every dollar you contribute to your 401(k). But remember, there might be a vesting period before you can access your employer’s matching contributions.
If the thought of putting away too much of your paycheck gives you financial anxiety, you can always start small and increase your retirement savings as you get more comfortable.
“Increase your 401(k) contribution by 1% and test out how that works with your financial situation,” recommends Beth Sabin, vice president of investments at United Income. “Then try to increase it again. If you have a company match through your 401(k), this can be a great place to start contributing until you have your full match.”
Sabin says that habits and automation can make a huge difference when it comes to retirement savings. Being as consistent as possible about saving for retirement can go a long way. And if possible, why not make your contributions automatic? That way, your retirement savings will grow without your having to think about it on a day-to-day basis.
According to Sabin, it’s never too early or too late to start saving for retirement. And Nuttall points out that the earlier you start, the easier it is to meet your retirement goals. Starting early could also help you prepare for the possibility of forced early retirement.
The earlier you start saving, the more opportunity your money has to grow. How your retirement savings account changes depends on the economy and how your money is invested.
How to Calculate a Retirement Savings Goal
According to Sabin, your age, target retirement date, current savings, expected return and income are all important factors when calculating your retirement savings goal. While there’s no one-size-fits-all goal, both Sabin and Nuttall agree that 10%-15% of your income can be a good starting point.
“The amount you need to save depends on a range of factors, including how much you’ve already saved, the return you get on those assets, the number of years you have until retirement, the lifestyle you expect to have in retirement and the number of years you will have in retirement,” Nuttall says.
And according to Nuttall, your age can be a particularly important factor in determining how to save for retirement.
“For a young person just starting out in their career, saving 10%-15% of their yearly pretax income is likely to be a good path,” Nuttall explains. “If we consider a 55-year-old who only has one times their annual salary saved for retirement so far, the 10%-15% annual savings benchmark may not be sufficient.”
Ready to Start Saving for Retirement?
Whether you’re just starting to save for retirement or you’re ready to kick it into high gear, there’s no better time to start than today. Remember, you can start small and increase your savings as you get more comfortable.
If you need help, talk to a qualified financial professional. And remember, every dollar saved is a gift to your future self.
Government and private relief efforts vary by location and may have changed since this article was published. Consult a financial adviser or the relevant government agencies and private lenders for the most current information.
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