January 25, 2020

Retirement: think about it now, not later

Retirement: you may not be thinking about it, but you should be.

To paraphrase twentieth century existentialist Martin Heidegger, you haven’t lived until you’ve thought about death.

Now that might be too morbid for someone who is not even old enough to rent a car in most states, so let’s backtrack a bit. You’re going to get old.

You will work most of your life until you’ve reached the threshold to afford living without working (the current age to receive full social security benefits for people born after 1960 is 67, just to give you an idea of what age you might retire at.) In short, the name of the game is financial independence.

38 percent of working households have less than $10,000 saved for retirement.

Being able to live out your time on your dime. The decisions you make now will benefit you down the line. When you are eventually old and decrepit, you will be glad that you started early.

I have no certifications or formal education in finance or retirement planning. I am using information from those who do have certifications and formal education.

That being said, do not take these words you are reading in a college news publication to be the final word on what to do with your money. Instead, use this as a launching point to begin thinking about retirement.

Why should you start saving now and not later? The answer lies within the concept of compound interest. The probably apocryphal line from Albert Einstein is that compound interest is the “the greatest invention in human history.” Whether or not he actually said it, it’s true. It’s easiest to explain by giving an example.

Using the compound interest calculator at investor.gov, we’ll calculate the following scenarios.

In scenario A, let’s say you initially invest $500 and continually invest $500 each month for 40 years (if you start at 25, this puts your retirement age at 65).

Assuming a return of six percent, your grand total after 40 years is $933,714.65. At only $500 a month, you almost earned $1 million.

Scenario B, let’s say you started saving 15 years later at 40-years-old and still retire at 65. You’re older so you invest more initially and contribute more each month. Your principal (initial investment) is $5,000 and your monthly contribution is $1,000. After 25 years, you will end up with $679,833.50.

In Scenario A, you squirreled away $240,500.00 for retirement and the reinvested interest after 40 years grew that to $933,714.65. In Scenario B, your total contributions over 25 years add up to $305,000.00 and with interest, you only have $679,833.50.

You contributed $64,500 more in B than A, but ended up with $253,881.15 less than if you had started earlier. The lesson here is the earlier you start saving, the more money you will have than if you start saving later.

You now know that you should start saving immediately, but what does saving for retirement mean? Since you don’t have a 401(k) or other employer sponsored retirement account at this point, you will be using an Individual Retirement Account (IRA).

There are two kinds, a traditional IRA and a Roth IRA to think about. The difference is mainly when you want to pay the IRS. In a Roth IRA, your contributions are taxed now. In a traditional IRA, your contributions are taxed when you withdraw money.

Generally, if you expect to be in a lower tax bracket at retirement, then go with a traditional IRA because you can deduct contributions from your taxes now and will pay less tax over time if you withdraw money while in a lower tax bracket.

If you expect to be in a higher tax bracket at retirement, a Roth IRA will allow you to pay your taxes now while in a lower tax bracket than later at a higher one. You can have both at the same time, but the IRS sets annual contribution limits.

There are other restrictions, qualifications, and tax differences between them, so be sure to investigate or ask a retirement professional which type of IRA is right for you.

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