The best gift you can give yourself this year? A more secure financial future.
No matter what stage of life you’re in, it’s never too late — or too early — to make sound financial decisions. Check out these tips to get yourself set up for retirement.
In your 20s and 30s: Get started
Many financial advisors say a good place to begin is to set up an emergency fund, saving enough money so that if you have an unexpected expense or job loss, you don’t end up using a credit card or other high-interest loan.
You can start small and build up your fund over time. Advisors recommend stashing enough cash to cover three to six months’ worth of living expenses to help you get out of a jam.
Manage your debts
In their 20s and 30s, people sometimes have several priorities, perhaps getting married, starting a family or buying a home. Make sure managing your debt is also a priority, advisors say. They suggest working on eliminating high-interest loans and outstanding credit card balances while building your credit.
“Be careful not to overborrow, but also keep an eye on balance transfer deals or consolidation opportunities that can reduce what you pay in interest and fees,” says Bruce McClary, senior vice president at the National Foundation for Credit Counseling. “This can save you a lot over time and ensure that high-interest debt won’t get in the way of your retirement savings.”
Track your spending
Another advisor suggestion is to automate your savings, by directly depositing a portion of your paycheck into a savings or investment account. You might not even miss the money being saved and this can help ensure that you’re living within your means.
You can also periodically review your spending, which can push you to think about where your money is going, like your daily coffee fix, which can add up to hundreds of dollars a year. Making a financial plan will help you gauge progress toward your goals and prompt you to course-correct as necessary.
Try to start early
If your employer offers a 401(k) match, financial advisors suggest contributing enough to jump on that free money. Beyond the match, pay attention to fees to decide whether to save for retirement using a 401(k), IRA or both. A good rule of thumb is to bump up contributions as you earn more. The ultimate goal is to maximize your contribution each year, ideally to both your IRA and 401(k), if you can afford to do so.
If you start investing early, you allow compound earning to work its magic, says Robert Johnson, professor of finance at Creighton University’s Heider College of Business.
With investing, compounding makes your money work for you because any returns are reinvested to earn additional returns. Even investing modest amounts can make a big difference over time with your retirement investments, especially when done on a regular basis.
Investing early on means you can afford to be more aggressive in your portfolio (holding more stocks than bonds or cash), which can help grow your savings more quickly. Since stocks are subject to greater market volatility, having a longer time horizon (length of time to invest prior to reaching your goal) means you have plenty of time to wait out any market downturns.
The “biggest mistake people in their 20s make is not taking enough risk,” Johnson says. He emphasizes that individuals need to invest for retirement instead of merely saving for retirement.
In your 40s and 50s: Make sure you’re on track
If you aren’t already, consider learning more about saving into IRAs, because they provide compelling tax advantages for those saving for retirement. Mixing Roth and traditional IRAs provides access to buckets of money with varied tax treatments to pull from during retirement, depending on what makes sense for you at the time.
If you have a 401(k), continue to bump contributions if you haven’t yet maxed out. The IRS knows that many are behind on retirement savings, so it allows those age 50-plus to take advantage of catch-up contributions in retirement accounts.
For 2020 and 2021, the catch-up contribution allows an additional $6,500 of savings on top of the $19,500 maximum contribution for 401(k)s and an extra $1,000 on top of the $6,000 maximum contribution limit for IRAs.
Jill Fopiano, president and CEO at O‘Brien Wealth Partners in Boston, suggests that people in this age group think of ways to limit expenses, and save and invest as much as possible.
“If your kids are out of the house, maybe it’s time to think about downsizing,” Fopiano says. “Not only might you take some equity out of your home to invest for your future, but you also may reduce the costs associated with a larger home.”
Getting a second opinion from a professional can give ideas on where to improve and help you double-check that you’re making the right decisions. A financial planner can help you review your plan, adjust where necessary and monitor your progress.
Consider health care costs
Unexpected health care costs can easily throw off your retirement plan. Medicare generally doesn’t cover long-term care needs unless you require skilled nursing care. This is where long-term care insurance can be handy. Advisors say the sweet spot for purchasing a long-term care policy is in your 50s, when you’re still young and healthy enough to qualify for the best rates.
Another way to cover medical costs is by using a health savings account. High-deductible health plans allow you to save and invest into HSAs, which are used to fund eligible medical expenses both now and in the future. HSAs have triple tax advantages — contributions are made pretax, investments grow tax-deferred, and you don’t pay tax with withdrawals. Balances also roll over from year to year.
In your 60s and 70s: Prepare for retirement
“When a person is within a few years of retirement, say five years, they should begin to reduce their risk exposure in retirement accounts,” says Johnson. “A large downturn in the market immediately preceding retirement can have devastating effects on an individual’s standard of living in retirement.”
However, keep in mind that retirement can last 30-40 years depending on your lifespan, so you’ll likely still need some risk within your portfolio to help your money grow and withstand inflation.
Asset allocation combats market volatility and "sequence of returns risk" (liquidating securities when the market is down, especially early on in retirement). Setting aside enough fixed income and cash provides flexibility. Because stocks and bonds generally have an inverse relationship, an investor needing cash in a down market can sell bonds, giving the stock market time to rebound.
Make detailed financial plans
As you near retirement, detailed financial planning can pinpoint your optimal retirement age, determine the amount you can afford to spend, make plans for generating income and prepare for the transition out of the workforce.
Planning for Social Security is also critical because your monthly benefit amount depends on when you decide to collect, advisors say. Drawing early at age 62 results in a permanently reduced monthly benefit. Taking benefits at full retirement age (somewhere between 66-67 years old depending upon your birth year) yields your primary insurance amount or the amount earned from your working years. Waiting until age 70 maximizes your monthly benefit.
Consider all of your income options along with other factors (life expectancy, whether you’re still working full or part time, taxes, etc.) to make an informed decision about when to start collecting Social Security.
One of the best ways to succeed at anything is setting manageable goals along the way. With retirement, it can be hard to know what goals to set or even if you’re on track. Whether you’re ahead of or behind on your goals, being purposeful about planning can help you get where you want to go.