How to Start Saving for Retirement in Your 20s

October 12, 2016 • Live Well / Career

How to Start Saving for Retirement in Your 20s

The ultimate cheat sheet for millennials.

As millennial twenty-somethings, saving for retirement is fairly overwhelming. First, there are so many options to choose from, and second, our paycheck seems to disappear into rent, loans, and other bills almost as soon as it deposits. So how exactly do we save for the future, when retirement seems so far away? Don’t be confused. We’ve got you covered with the basics. This is how to start saving for retirement in your 20s.

 

Step 1.  Figure Out How Much You’ll Need

First things first, figure out how much you need to save. Most financial experts say to put away between 10% and 20% of your salary each month. But it’s also helpful to estimate the total amount you’ll need to accumulate before you’re ready to retire. Start by asking yourself these questions.

 

What do you want your life to look like when you retire?

It might be difficult to imagine what your life will be like in 50 years, so take these things into account. Do you plan on being married and/or having children? Do you hope to purchase a large house? Or do you envision spending your retirement years somewhere cheaper, like a tiny house in a rural area? The type of lifestyle you want will greatly affect how much you need.

 

How many years will you spend working?

This too will help you calculate how much you’ll need before you throw that retirement party. If you plan on retiring early, you may need to up the percentage you save. Still need help? Check out the retirement calculators below to estimate a more exact amount.

 

Use these helpful retirement calculators

Financial advisors say to expect that as a retiree you’ll spend a total of 80% of your annual salary per year of retirement. You can subtract 20% of your salary because hopefully by the time you’re retired you’ve paid off a house and won’t have mortgage expenses. To figure out the total number you’ll want to save, do this math:

 

(Current salary x 0.80) x number of years retired = how much you’ll need to save

Or just check out NerdWallet’s useful retirement calculator.

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(Source: intelligentchange.com)

Step 2. How To Pick Retirement and Investment Plans

Take a look at these options that’ll help you secure your financial stability.

 

401(k):

If your company sponsors a 401(k) consider yourself in a pretty clutch position. Many 401(k) plans have low fees and automatically take a percentage of pretax money out of your paycheck so you won’t even notice it’s gone. The major benefit of a 401(k)s is that you don’t pay taxes on your investment until you start taking money out from the account. Presumably, by the time you start taking out distributions as a retiree you won’t have income and your tax bracket will be lower, meaning you’ll save money paying taxes on your 401(k).

Bonus: Some companies will offer to match your contribution (which basically means you get free money), so learn your company’s rules about how to achieve the maximum match and contribute at least that amount to achieve the maximum match. You don’t want to pass up free money! If you leave your company, you can still roll over the money in your 401(k) into another retirement account. FYI, the maximum annual investment for a 401(k) is $18,000. If your company does not sponsor a retirement plan or if you’re self-employed, then look into IRAs (individual retirement plans).

 

Traditional IRA:

The Traditional IRA is funded with pretax money. So you don’t pay taxes on that money now, but you will when you withdraw it during retirement. You can invest a maximum of $5,500 per year into this account.

 

Roth IRA:

A Roth IRA is funded with money after you’re paid taxes. The best benefit of a Roth IRA  is that when you withdraw in retirement you won’t have to pay any additional taxes on the gains you made on your investment’s growth. You can invest a maximum of $5,500 per year into this account. Just note: If you earn more than $117,000 a year you can’t invest in a Roth IRA.

 

SEP IRA:

If you’re self-employed, you should strongly consider the SEP IRA. The best feature of a SEP IRA is that you are able to contribute up to 25% of your income or up to $53,000 per year (depending on whichever of these options is less).

 

Rollover IRA:

A Rollover IRA is a type of traditional IRA. If you leave a job and have a 401(k) but you’d like to switch up your investments, you can roll your 401(k) money into a Rollover IRA. Rolling over your 401(k) can come with strict stipulations (like completing the rollover within 60 days, so be sure to get instructions on how to do it correctly so you aren’t charged any early withdrawal fees.

 

Index Fund or Mutual Fund:

If you’ve already taken advantage of a retirement fund and are looking for additional ways to invest your money then consider a fund. Index Funds and Mutual Funds allow you to invest in a diverse portfolio of stocks. The advantage of this is that you aren’t putting all your eggs into a single basket (or stock). You can put as much money into a fund as you want. That’s right, there’s no maximum! However, there are some cons: There is usually a minimum amount you’ll need to invest and you don’t have the same tax advantages that you get with a 401(K) or IRA.

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(Source: theeverygirl.com)

Step 3. Find a Financial Institution

 

Traditional Brokerages

You can find index fund and mutual fund options through brokerages such as Vanguard, Capital One 360, and Charles Schwab.

 

A Digital Investment Advisor

The newest option on the scene is a Digital Investment Advisor a.k.a a robot. In this type of investment, a computer algorithm instead of a human makes decisions on where your money will be invested. You’ll complete a bunch of questions about your risk tolerance and money goals and the robot will suggest a diversified investment portfolio. Once you set this up, the algorithm will automatically adjust your account so you don’t have to do any work at all. Some of these accounts don’t have a minimum initial investment amount so you can get started with less money. It’s a hands-off way of investing. The cons: You have less personal control than you’d get with a human-run Index Fund or Mutual Fund. Take a peek at new Digital Investment Advisors like Betterment and Wealthfront to see if these are right for you.

Pro tip: Remember there are risks associated with investing in the stock market, so make sure you always have an emergency savings account.

 

Step 4. Review and Open Your Account

Review your investment options and take the time to discover what type of investment works best for your situation. This is an exciting time to start saving! Have you heard of compound interest? The money you put in now will compound quicker than the money you add in your 50s, so the sooner you start saving for retirement the better. Sure, it’s a ton of work and a lot of information to take in, but making the effort now will get you financially secure in your golden years.


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