When many people turn 16, they are anxious to get their driver’s license. I know that has been true for my boys. Before we can drive, though, we need to learn the rules of the road. Some of them are laws, and some are just smart, like slowing down when the weather is bad. Retirement is no different – we look forward to it, but we need to prepare and we can do that by learning the “rules of the retirement road.”
1. The most important one is to pay yourself first. Automate your savings by having money taken directly from your paycheck and invested in a 401k or 403b or IRA. By having the money taken directly from your check, you won’t miss it. Start out small and increase the amount you put away when you get a raise. Make sure you contribute at least enough to get your employer’s full match.
2. Don’t let today’s bills sink tomorrow’s needs. Your expenses tend to grow over time. By living within your means, will be able to save for retirement and for the emergencies that will come up from time to time.
3. Put time on your side. Just putting a little aside each week or each month will build up over time. The longer your money is invested the longer you have for your money to grow. If you invest $2000 per year for 10 years, stop adding to it, but let it grow for another 10 years, you’ll have $43,024 at the end of the 20 years if you earn five percent. If you wait 10 years, then invest $3000 per year for 10 years, you’ll only accumulate $39,620 earning the same five percent.
4. Don’t count on living on just social security. Current retirees get about 38% of their income from social security, with the balance coming from pensions, investments and personal savings. The future of social security is uncertain. As it stands now, the system will only have enough to pay 74 percent of scheduled benefits by 2041. It is likely that social security’s problems will be solved because it is one of the most popular and successful government programs in history. In any case, though, it makes sense to plan on other income in retirement.
5. Resist borrowing from your 401k. You will lock in a low rate of return and it can be a challenge to pay back the loan and save at the same time. It many cases, people stop saving until the loan is paid back. Plus, if you change jobs, that loan becomes a taxable distribution, subject to a 10 percent penalty if you are under 59 ½, unless you pay it back in full immediately.
6. Don’t cash out retirement plans when changing jobs. It’s tempting to spend your retirement money when you change jobs, but you can end up owing almost half of what you spend in taxes and penalties. Instead, consider one of these options: Leave your money in the former employer’s plan, if permitted; Roll over the assets to your new employer’s plan, if one is available and rollovers are permitted; Roll over to an IRA; or Cash out the account value.
7. Take advantage of your IRA options. If you are maxing out your retirement savings at work, an IRA might make sense if you want to save more. You can set it up to fund automatically from your checking account to make it easy
8. Compare the merits of the Roth IRA and 401k. Contributions to a Roth are not tax deductible, but all the withdrawals from the Roth are tax free.
9. Don’t try to time the stock market. Moving money in and out of the market rarely works over time. Also, if your retirement plan allows you to invest in your employer’s stock, limit your exposure. Remember what happened to Enron and WorldCom employees who had too much in their employer’s stock.
10. Set up an asset allocation plan (your mix of stocks and bonds) and stick with it, regardless of what happens in the market. Rebalance your allocations at least once a year. As you get closer to retirement, you will want to reduce your exposure to risk so you’ll cut back on the amount you allocate to stocks.
Just like driving, retirement planning is easier once you learn the rules of the road.
For more information, you can listen to the podcast of Smart Money Management radio show on this topic, along with others, at www.alderferbergen.com.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
All investing involves risk including loss of principal. No strategy assures success or protects against loss. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk. Asset allocation does not ensure a profit or protect against a loss. Rebalancing a portfolio may cause investors to incur tax liabilities and/or transaction costs and does not assure a profit or protect against a loss.
Securities and financial planning offered through LPL Financial, a registered investment advisor. Member FINRA/SIPC