By William Sun
Overview
A 401(k) plan. Matching Contributions. Annuities. Individual Retirement Account (IRA). These confounding jargon are no less important than choosing the ideal location for your retirement planning. With the average retirement age dropping to 62 in the US (1) and the economy in a downward spiral, it is more important than ever to have the proper planning for a great retirement.
In this article, we’ll go over the different types of retirement plans, how to build your ideal retirement life, and common myths about retirement.
What is retirement?
Simply put, retirement is the process of leaving behind the workforce; in place of job income, many countries provide a national pension or social security system. Oftentimes, many people retire due to increasing age, a feeling of discontent, or even a feeling of satisfaction with what you have achieved. In any case, retirement must be carefully planned and organized in order to avoid a loss of financial stability.
Without saving enough for retirement, your future goals and long-term happiness could be threatened. Consider the story of John. (1) Having adopted a reckless spending and withdrawal habit, John was employed in a full-time job in his mid-60s instead of enjoying a quiet retirement. Moreover, the implications of poor retirement planning stretch far beyond just your own wellbeing; your family’s mental health and financial stability may be in jeopardy if you suddenly leave them without sufficient security.
Luckily, there are many ways to begin safely and efficiently saving money for a secure and pleasant retirement. One key way many people began saving up for retirement is simply making their own individual investments towards retirement. Of course, for each individual, the optimal amount and time to save will vary. A good rule of thumb is to save up to 80% of your current income before you retire to maintain your lifestyle. (2) Apart from making individual retirement investments, there are tons of other employer-sponsored plans. Some of the most popular savings plans are listed below.
High-yield savings account: A risk-free account with an exceptionally high interest rate to grow your savings. Yet, compared to other plans, and with a current downward spiral in interest rates due to the Federal Reserve policy which encourages lower benchmark rates, this option often makes the least amount of savings over longer periods of time.
Traditional Individual Retirement Account (IRA): Simply put, this is an individual account that you open and invest yourself. One unique benefit of a traditional IRA is that it's tax-deductible, meaning that you can reduce the amount of income that can be taxed. For example, by investing $10,000 into your IRA, the amount of income that's taxed decreases by the same amount. Moreover, the money is organized on a tax-deferred basis, where you only pay taxes once you withdraw, allowing the money within the IRA to grow at a greater rate.
Roth IRA: While it is generally similar to a traditional IRA, Roth IRAs differ in that while they lack the benefit of being tax-deductible, Roth IRAs do not require investors to pay them once they withdraw. Thus, theoretically, the investments made can grow tax-free.
401(k): These are retirement accounts given by a company for its employees. Similar to a traditional IRA, these have a tax-deferred basis system, allowing the money to grow without the limitations of taxes. Some unique benefits of a 401(k) include higher contribution limits, matching contributions by employers, free investing advice from plan providers such as Vanguard, and legal protection. However, 401(k) plans often bring in a host of additional fees, from fees for earlier withdrawals to account fees.
Simplified Employee Pension (SEP) Plans: Ideal for self-employed individuals, this plan is only available to business owners or someone with freelance income. This plan shares all the benefits of a traditional IRA, of being tax-deductible and having a tax-deferred basis system.
How do I plan for retirement?
Now the question lies: how exactly should I begin saving for retirement? With only 50% of all Americans having calculated the ideal saving amount for retirement, it is critical that a neat, organized, and a specific plan be created to start preparing for retirement. Here are some quick tips on how to do so.
Save early, save often: One of the most important habits to keep in mind is to start investing for your retirement as early as possible. The best time to begin saving up for retirement? Now. While it may seem too early, too overwhelming, or wholly unnecessary, by starting off at smaller increments, it is easier to begin the process of retirement planning. It is even more critical to stick to your plan! Much like investing stocks, saving up for retirement is a long process and requires commitment. A general guideline for investments is to invest a lot at a younger age and slowly reduce your investments at older ages to allow your investments to withstand market fluctuation and unforeseen complications.
Calculate how much you need: Understanding your retirement needs and expenses is absolutely critical to creating the right plan for you. As mentioned before, the usual rule is to save up to 70% to 90% of your yearly pre-retirement income. For instance, someone who earned $100,000 before retirement needs between $70,000 to $90,000 per year in retirement. While this is a sufficient guideline to follow, it shouldn’t be the sole Other expenses in retirement, from paying off mortgages, sudden medical bills, or even just traveling, should be considered. One of the most important factors to take into account is your predicted withdrawal rate, or the rate at which you use money when you're in retirement. To keep up with changing expenses or unexpected investments, such as buying a house, updating your retirement plan often can help you adapt to unforeseen changes.
Common Myths for retirement
Given that retirement is something that almost all Americans go through, there are tons of misinformation and inaccurate tips spread across the Internet. Here are some of the most common retirement myths to be on the lookout for.
1) Social Security will take care of my retirement.
According to the Social Security Benefits Planner, Social Security only makes up around 40% of necessary retirement income. That's still a whole 60% needed to be covered by individual investments or a savings account.
2) Retirement will have less expenses than my current lifestyle.
While the past expenses of taking care of children, driving to work, or buying supplies for your job may no longer apply, there are so many other factors that could lead to increased expenses. Moving areas not only brings the issue of traveling costs but also the potential of your new location having a higher cost of living. Pursuing hobbies, such as collecting cars or even painting, could bring in small but numerous costs. Healthcare expenses are especially significant expenses that only increase with age.
3) It’s already too late to start saving for retirement.
Mindsets like these only discourage people from attaining their dream retirement. Even at an old age, it's more than possible to save up for retirement through active and aggressive investments and savings plans. In fact, people older than 50 may be able to contribute more than the maximum amounts for 401(k), IRA, or other accounts.
4) I can’t afford to save for retirement.
With the costs of paying off mortgages, student loans, and daily expenses building up, it may seem overwhelming to even consider pouring money into retirement. Yet, every dollar contributed, no matter how small, can get you on the path towards a more secure future. Find every opportunity possible to start saving. For employee retirement plans, try to contribute just the amount necessary for the employer to match your contribution.