If you eventually want to live without having to work for your income, you have to prepare.
In broad terms, you can think of retirement as broken up into three (3) periods: contribution, accumulation, and distribution.
3 Phases of Retirement Planning:
Contribution Period
This is where you invest or save money for use later. In the case of employer-sponsored plans such as 401(k)s, 403(b)s, 457(b)s, and the like of that, this is frequently accomplished via elective deferrals or salary reductions.
Contributions made this way are generally “pre-tax,” meaning that they are deducted (or excluded) from your gross income when your tax obligation is calculated. employee contributions that are a generally a percentage of the employee’s compensation.
But you might also just write a check to your own Individual Retirement Account or Annuity (IRA). If it’s a Traditional IRA, then contributions are deductible. In the case of a Roth, they aren’t.
Of course, you could also save by using non-retirement-specific vehicles – such as certificates of deposit (CDs), money markets, non-qualified annuities, and savings accounts.
In these cases, deposits could be made the way you make any other deposits into bank accounts.
Getting into the pluses and minuses of any particular vehicle is beyond the scope of this article. Check back for additional posts, or visit my YouTube Channel, where I do tackle some of these questions.
Accumulation Period
Once invested or deposited into one vehicle or other, hopefully, your money is earning interest or increasing in value due to favorable market experience.
Of course, positive investment experience is seldom – if ever – guaranteed.
Rather, it depends on the performance of various equities or securities, stocks and bonds, and other things (commodities, futures, put options, or whatever) you bet on.
In some cases, you might put your money into a “fixed” vehicle – like a CD or certain annuities – where there is a guaranteed minimum rate of interest. Such vehicles are not entirely without risk, however. For one thing, there is possibility that the institution will fail. For another, the guaranteed rate is likely fairly low, and it may not adequately keep pace with inflation.
There’s lots to consider!
Distribution Period
Once you have grown your money and attained whatever age (for IRS-qualified vehicles, this is often 59 1/2) is required to access it without a penalty (if applicable), then you can begin to live off of it.
To do this, you’ll need to turn your retirement savings into an income stream.
Again, this would take us too far afield, presently. But, I speak about it in one of my YouTube videos.
How Do You Save?
But, from a practical point of view, converting assets into income requires that you have convertible assets! And earning something with your money presupposes that you had it deposited or invested into something.
So… what about that? How do you go about saving for retirement?
Here are five quick tips to jumpstart your thinking.
5 Tips
Start Early
Of course, this is easier said than done, sometimes. And if you’re already barreling down on retirement age, it’s not possible to travel back in time.
But, it’s better late than never.
The point of starting your savings are soon as feasible is multifold.
In the first place, it helps you to develop good and thrifty habits.
But, secondly, from a purely finance-101 perspective, it also enables you to more fully harness the power of compound interest.
Invest Wisely
Still, putting money away early does nothing for you if you lose it all.
I am certainly not a financial adviser and cannot give you investment advice.
But, unless you feel comfortable handling your allocations and transactions yourself, you’ll probably want to avail yourself of the recommendations of someone knowledgeable and licensed in the relevant products.
If you’re tempted to dabble in the stock market, then you will need to consult a broker or mutual-fund manager.
If you want to utilize CDs, money markets, and savings accounts, then your banker will perhaps suffice.
If you’re wanting to look into annuities and life-insurance products, then an insurance agent or broker should be in your network.
Pay Yourself First
Even good investments cannot make you money if you don’t fund them.
And this funding, to be most efficacious for your retirement, will have to be consistent and long-term.
One of the most recommended ways to do this is to get into the habit of automatically setting aside a portion of your paycheck, every time you receive one.
How much should you set aside?
Try to Save 10-20% of Your Income
This is going to depend.
But an oft-heard rule of thumb is to aim to save 10% to 20% of your pay. The median is obviously 15%.
But, don’t put off saving if you think you can’t manage these percentages.
1% will go further for you than 0%.
Having said that, and unless your income is very high in contrast to your expenses, it is unlikely that 1% will do much for your retirement nest egg.
So, try to make your contribution meaningful. Do enough so that you can feel good about your plan.
At the same time, you need to ensure that your contributions are sustainable. So, don’t do so much that you can’t pay your bills in the meantime.
But… if overly high expenses are the problem, look into creating a budget, cutting expenses, and so on.
Don’t Try to Time the Market
To repeat: I’m not an investment expert or financial adviser!
But, one of the standard aphorisms one hears when reading through the literature is that time in the market beats trying to time the market.
The point of this saying, I take it, is that you’re being encouraged to take a long view of things. Don’t think of the stock market like the blackjack table or a slot machine at the casino. Or… you run the risk of having the “house” take your hard-earned cash!
Instead, many people encourage us to put our money into dependable investments.
What are those? Well… I can’t say, specifically.
One of way categorizing them, though, would be things like the so-called “Blue Chip” companies, dependable dividend-paying companies, “large cap” corporations (i.e., ones with a lot of money), and well-diversified index and mutual funds.
What Kind of ‘Vehicle’ Do You Use?
Once you have gotten sufficiently motivated to start saving, one question is: where do you put your money?
Who do you make the check out to?
The main choices for retirement vehicles fall into these five categories.
5 Categories of Retirement Vehicle
Employer-Sponsored Plans
These are going to be ones that you have access to through your place of business.
We’re talking, here, about the 401(k) for most private-sector jobs. Many schools and non-profit organizations offer a 403(b). Some not-for-profits and numerous government jobs will give you access to a 457(b). Other government organizations have Thrift Savings Plan (TSP).
You need to consult your plan administrator or human-resource department for more information.
Individual Retirement Accounts
A second type of vehicle is the Individual Retirement Account or Individual Retirement Annuity. These come in two main flavors: the Traditional IRA and the Roth IRA. I describe the former, HERE, and the latter, HERE.
There is also something called a “non-qualified” annuity. But is generally less utilized for retirement savings, because it doesn’t have the tax advantages that are part and parcel of what it means for the IRA and Roth to be “qualified.” The non-qualified annuity can be handy to have once you’re in retirement, though, since you can continue to contribute to it even after you no longer have earned income.
Health Savings Accounts (HSA)
This one is often overlooked, because its primary purpose is to help you pay healthcare expenses. But a number of people suggest that you don’t neglect it as a retirement vehicle.
It must be coupled with a High-Deductible Health-Insurance Plan. There are other limitations and restriction as well. It’s beyond the present scope to get into it in detail. But, it might be worth your attention.
Brokerage Account
You might also want to have some stocks and bonds outside of your 401(k) or IRA. And one way to do this is to open an account with a brokerage.
‘Other’
Finally, as supplements to your primary vehicles, you may consider other things such as 529 Plans, private annuities, CDs, life insurance policies, money markets, savings accounts, and so on.
What’s the Order of Events?
There are numerous strategies. Here are three that I have encountered.
3 Strategies
Strategy #1
Some people suggest that you get your employer-sponsored plan – like a 401(k) – match, and then maximize contributions to an Individual Retirement Account. Whether this is a Traditional IRA or a Roth will depends on your current and projected-future tax situation, among other factors (like your income). From these, some people think that you should turn your attention back to the 401(k) and completely max out your contributions.
Strategy #2
Other people suggest something a bit different.
On a second view, people think you should start with your 401(k) match and then max an IRA (Traditional or Roth, as before). But, here, this strategy deviates in that adherents don’t recommend that you loop back and max your 401(k).
Instead, at this point, this next strategy has you turning your attention on ancillary vehicles like private annuities, brokerage accounts, and life insurance (to implement what is sometimes termed a Life-Insurance-Retirement Plan, “LIRP,” or a “7702 Plan”).
Strategy #3
On a third view, you just go down the list of available vehicles, maxing out contributions as you go along. So, this third strategy would suggest that you fund the 401(k) completely right off the bat. The you’d max out an IRA. Then you might max out an HSA, and so on.
Concluding Remarks
To be sure, there are any number of other strategies you might latch onto to or prefer. And, often, you will be steered into one or other by a financial adviser or money manager.
Which is picked will depend on your income, goals, tax situation, and other factors. For instance, if you don’t have access to an employer-sponsored plan, or if there isn’t a match, then you will have to craft a savings strategy that works with what you do have access to.
Still, it’s probably the case that doing something is better than doing nothing.
So… don’t delay starting your savings plan until you have the “perfect” strategy. After all, it’s probably impossible, practically, to fully optimize any financial plan. We don’t know for sure what the markets will do, when we’ll die, etc.
We do the best we can with what we have.
I wish you all the best in your retirement-savings planning!