Why To Save Money In Your Retirement Plan
In today’s workplace, many employers offer a retirement plan to entice workers to save money for retirement. With the uncertainty of Social Security and changes made to it in the future, putting money away has become more important than ever for your golden years. But why should a person in their 20’s or 30’s start to save now? After all, retirement may feel like a lifetime away—something that they can “worry about down the road”. Below are two examples of people who started saving at different times and finished with much different results:
In this example, Pat contributed $2,000 a year for 10 years starting at age 25 and entered retirement with $257,686 in his account (assuming an average 7% return of investment annually). Jaime started saving at age 35, contributing $2,000 a year until retirement. Again assuming an average 7% annual return, Jaime will end up with $235,866 in her account, a difference of $21,820. Why the difference? Compounding interest. The longer that the money is invested, the longer the potential for a higher account balance. Therefore since Pat’s money was invested for a longer period of time, it had more time to work for him, gaining growth towards his retirement and a greater end result at age 66.
Other important reasons to invest in your work retirement plan:
Many employers will match a certain percentage of your contributions into your retirement plan. This is done to entice better workers to stay, and to reward those who are adding money to retirement savings. By saving money inside your retirement plan, you may be eligible for this “free money” benefit—talk to your employer or human resources director to see if your company participates in a program like this.
Diverse selection of investment options:
Most retirement plans let the employee choose which investments they would like to put money into. This allows the employee to invest in an amount of risk that is suitable for him/her and not expose him/her to investment risks that he/she may not feel comfortable with. Different types of investments inside a typical 401k include equity funds, bond funds, balanced funds, and target date funds. Each individual fund has differing characteristics—feel free to ask us about information about your retirement investments if you have questions.
Money contributed may have tax advantages:
When investing in a traditional 401k (not ROTH), contributions are deducted from your paycheck before taxes thereby lowering your taxable income. Depending on the amount of money that you (and your spouse) may make, this addition to your retirement could potentially lower your income tax rate, saving you when you pay taxes in April. If you make a contribution to a ROTH 401K, your money is taxed before going into your retirement account, grows without taxes, and can be withdrawn completely tax free (after age 59 ½).
Loans to yourself:
Some retirement plans allow you to take a loan inside your retirement plan. These loans typically carry a set repayment schedule and interest rate. They usually are repaid through a deduction from future paychecks. It is important to remember to repay these loans—if termination of employment occurs during the repayment of the loan and the remainder of the loan is not repaid, it is subject to a 10% penalty for early withdrawal (before age 59 ½) and tax consequences may also take effect.
You get to keep this money:
When you decide to stop working at your place of employment, you have certain rights to the money you contributed. Upon leaving, you will have the choice to cash out of the account (with possible tax consequences), roll the money into a new retirement plan at your new employer, or you can move the money into an IRA or ROTH IRA.
Retirement always seems to approach more quickly than people are prepared for. The most important thing that you can do is to start saving now so you will be ready for it when the time is upon you. If you have questions about your current retirement savings or would like to set up a retirement projection, please contact us—we’d love to help you on your way in your financial future!
All examples are hypothetical and are for illustrative purposes only. No specific investments were used. Actual results will vary. Past performance does not guarantee future results