Retirement isn’t something most people are thinking about very early on in their career, but it is something you should think about as soon as you get your first paycheck. Saving for retirement is often overlooked by 20-something year olds because it’s just too far away. However, if you start allocating just a small amount each paycheck to a retirement account in your 20s it can make a lifetime of difference when you retire.
The Earlier The Better
According to a report by TD Ameritrade, the average millennial doesn’t plan to start saving for retirement until their late 30s. The reason why you should start saving earlier rather than later is because when it comes to compound interest, time is your friend. Compound interest is calculated on the deposit and on the interest that accumulates. This means you earn interest on interest! This also means that saving a small amount each month starting in your 20s will grow to a large amount with interest compounding until retirement age.
Below is a hypothetical from Vanguard that assumes a 6% annual return:
Basically, by starting to save for retirement in your 20s, time is on your side and this means that you’ll have more money in your pocket when you retire.
Maximize Employer Match
If your company offers an employer match on your 401K deposits then you should be depositing the amount that gets you the maximum employer match. These terms are usually as convoluted as possible, so we’ll go over an example. The company policy says they will match 100% for the first 3% and 50% for the next 2%. This means that you should be allocating 5% of your paycheck to your 401K to receive the full employer match of 4%. You can confirm with your employer’s HR person to ensure that you will be receiving the full company match with the allocation percentage you select.
Lower Your Taxable Income
Contributing to pre-tax retirement savings accounts means that you are not taxed on those deposits. This means that you are lowering your taxable income so if you can allocate more, you should. Both a 401K and a traditional IRA use pre-tax dollars, the difference is that a 401K is opened through an employer and you can open up a traditional IRA on your own. You should know that if you withdraw any money before retirement age, which is 59.5 years old, you will pay substantial penalties, so keep this in mind before putting too much into retirement accounts. Balance your retirement savings with your life. Learn how to create a monthly budget and see how much you can afford to put toward retirement savings each month.
Make It Automatic
When you open the retirement account, whether it is a 401K or traditional IRA, you should be able to set up a percentage of your salary to be automatically deposited to the account from each paycheck. It may be a bit more complicated since the traditional IRA is not through your employer, but you will just have to check with your work because it should be possible. As your pay increases or other finances change, you should reevaluate your budget and see if there’s room to allocate additional funds to your retirement savings.
Rollover Your 401K If You Change Jobs
A big concern for people starting out their careers is that they may not stay at the company long enough for it to make sense to open a 401K. While this may make sense if you only stay for a couple of months after you are eligible to open a 401K, if you maximize your employer match for even just 6 months you’ll have more than you think in your 401K. If you make $40,000 a year and your company matches 3% then after just 6 months if you deposited 3% of your salary monthly, you will have deposited $600 and your employer will have matched that to have $1,200.
When you do change jobs, you’ll simply have to open a traditional IRA with the company of your choice and rollover your 401K to it. The money should never touch your hands so that you avoid paying any early withdrawal penalties. You can usually start the rollover process in your 401K account online or contact your representative. Be aware that there is usually a small fee to rollover your 401K, however you can check how much that is before opening the 401K with your employer.
Set yourself up for success by starting to save for retirement as early as you can. Use the notion that you won’t have to stress later on to motivate you to be financially successful and responsible. Your future self will thank you.
Financial freedom starts with good habits!
Check out these offers from our sponsors: