Timeline For Retirement Planning

If I were to ask you if a sixteen-year-old should open a Roth IRA, would you agree? As long as that teenager is earning an income and living with mom and dad, I would highly recommend him or her to open a Roth. Imagine if that teenager learned the value of compound interest and the power of time value of money. These two components of financial stewardship are so important that teaching your son or daughter early that doing so will position him or her for a comfortable retirement. That is why every time I am asked this question, I always answer “Now is never too early to start. So, let me give you the question and follow it with my recommendation.

How early should I begin planning for my retirement?

The easy answer to this complicated question is that as soon as you ask the question, you should begin planning. If you are wondering when you should start, then that is a good indication that you are seriously thinking about retirement. There are so many demands on a young person’s financial resources that retirement planning to a young person is “something that old people do.” However, retirement planning is not something that should wait. From the day a person enters the workforce, he or she has access to one of the greatest wealth building resources in the world; an income. The next best wealth building resource is the company sponsored 401k or 403b plan.

Retirement planning should begin the moment a person has access to a company sponsored retirement plan. With the death of the traditional pension, employees are assuming more responsibility for their retirement and with Social Security on life support, this trend will continue. This is why more companies are beginning to institute the automatic contribution program for their employees. According to a report produced by the United States Department of Labor, approximately 30 percent of eligible workers do not participate in their employer’s 401(k)-type plan. An automatic enrollment 401k plan will reduce this number significantly.

Some might ask “What is the benefit of an automatic enrollment 401k plan?” Well, let’s look at the concept and examine the benefits. First, an automatic enrollment plan increases plan participation among both rank-and-file employees and also among managers who might overlook the benefits of a 401k. Surprisingly, managers who qualify for a 401k don’t take full advantage of the plan. A company match is a kin to giving yourself a tax-deferred pay raise. Even contributions made above the company match simulates a pay raise since ever dollar contributed reduces your taxable income.

Next, an automatic enrollment plan self-directs contributions if employees do not select their own investments. Typically, these self-directed contributions are placed in a targeted date fund, which is a fancy name for a mutual fund of mutual funds that are weighted based on the projected retirement date. This feature helps those who are not market savvy have their money managed for them. As the retirement date approaches, the targeted date fund adjusts to reduce risk. This feature can also simplify the selection of investments appropriate for long-term retirement savings for participants.

Finally, these types of programs help employees begin saving for their future and take advantage of favorable tax treatment. Some companies are also offering the Roth 401k which takes advantage of tax free growth. The Roth 401k is a great way for a young person to build significant amounts of wealth without having the government eventually impact the growth.

Now, to get back to the heart of the question of when should someone begin to plan for retirement. Honestly, sixteen is not too early to begin to plan for retirement. Doing this will pay tremendous rewards later on in life. Some might question the wisdom of planning so early, but keep this in mind. Life will try, and in many cases succeed, at interrupting your plan. Therefore, the more time you have built into your plan, the greater number of interruptions your plan can withstand. When you begin to save for retirement with ten years to go, a significant financial event will have a greater impact on your retirement planning.

It is not too early to find an area where you would like to retire and purchase some land there. If you have the ability to purchase land (meaning you have the financial resources to pay cash) and you can find the right location, purchase it now. If you decide later to live somewhere else, you can always resell the land. Retirement planning isn’t just financial in the sense that it is all about money. You have to consider where you would like to live, what activities you want to do, and if there are any special services you need.

Analytics can be your friend. Knowing what you want out of your retirement will identify what you need to put into your retirement planning. One thing I can say with confidence is that I have never met someone who said “I want to be dependent in my retirement.” We all want a level of independence and freedom to do the things we never had time to do while we had to work. Having no plan is having a plan to be dependent. With that said, here is the time line I suggest for saving for retirement.

When you begin to earn an income in your teens and early twenties and you don’t have significant expenses, start a Roth IRA. Someone in his or her teens to early twenties, who can put away $2,000 a year for eight years has the potential to have $25,736 with a 10.5% return at age 22. If that person never adds another dollar to the account, he or she could have over $4 million at full retirement age. Therefore, I suggest that anyone in this age group start the engine of wealth building as soon as he or she can. It only takes $2,000 a year for eight years.

As you transition from the academic environment to the working world (between 22 and 30) participate in a company sponsored retirement plan. Here you can shift from contributing to your Roth IRA to your 401k. If you have the resources to do both, then by all means, continue to do both, but the main focus should be on contributing to your 401k up to the company match. This should always be a part of your wealth building plan so long as you are gainfully employed.

As you enter the child rearing years (30 to 55), continue to increase your 401k contributions to the maximum IRS limit of $18,000 per year. In addition to this, max out your Roth each year by contributing the $6,500 IRS limit. This is the goal. If you cannot reach the limits, contribute as much as your income and expenses allow. Keeping expenses low means you can keep your contributions high.

Once your children are grown and raising families of their own, you can begin to transition to full retirement planning. By this I mean you can max everything out. Fund 401k contributions and catch-up contributions to the maximum and do the same for your Roth IRAs. The last 15 employment years should be the most lucrative contribution years of your life. Granted, these contributions will see the least amount of growth, but you can benefit from the tax-treatment in your high earning years.

The process is simple. Start with as much as you can afford in the early years. Adjust for family needs in the middle years. Close with the greatest amount of contributions you can in the final years. The truth is that you should be planning for your retirement from the day you begin to earn taxable income. By doing this, you will have no need to depend on social security even though you will still be eligible for it. Be your own security. Imagine being able to collect social security and donate it to your favorite non-profit and write it off your taxes when you have to take the MRD from your IRA.

You can learn more about how to build a powerful retirement strategy by purchasing Simple Wealth Building Strategies or 10 Ways To Improve Your Retirement Planning.