Saving for Retirement

Whether you’re in your early twenties or have just a couple years before retirement, it’s important to put money aside for when you are no longer earning consistent income.  The younger you are, the more difficult it might be to save money towards a goal that is so far away – but the earlier you start saving for retirement the better off you’ll be.

In fact, a 25 year old who manages to save just $5,000 a year and earns 8% interest on those savings will have over $1 million when he or she turns 65.  If the same $5,000 a year is saved at the same 8% interest by someone who is 45 years old – they’ll only have $230,000 saved by the time they turn 65.  See the difference?  Would you rather live out your golden years with over a million to work with or a couple hundred thousand?

Tax Advantaged Accounts for Retirement

Saving for retirement can be done with various tax advantages when you select one of the many tax advantaged options.  If your employer offers retirement options, look into them.  The 401K and 403B savings plans are tax-deferred (like traditional IRAs).  Other options with tax advantages include the Roth IRA and Roth 401K, both are tax-free for qualified distributions.

Contributing to 401K or 403B plans, as well as traditional IRAs are usually made with pre-taxed money.  When you withdraw the money from the accounts, you are taxed at the normal income rates.  For after-tax contributions to Roth IRA and Roth 401K plans, you pay taxes on the money going in and withdraw qualified distributions free of federal income tax.

With any retirement account, if you withdraw before the qualified minimum age limit, you’ll pay 10% penalty tax as well as income tax on the money as additional income.

How to Choose Savings Vehicle

If your employer matches your income to a 401K plan, it makes sense to choose this retirement savings option.  It doesn’t have to be your only source of investing, as there may be other investments with the opportunity to give you higher returns – but whenever you can get free money you shouldn’t turn it down!  Employer matching contributions is essentially free money, and should be taken advantage of.

Also, look for flexibility.  Certain accounts, such as the 401K, may offer the ability to take out a loan (with repayments on the loan paying yourself back, including interest on the loan); where as using a traditional IRA does not offer the ability to withdraw money  without paying early withdrawal penalities (except for very specific exceptions – like taking money out for a downpayment on your first home for example)

Consistency is Key

Regardless of the method you choose to save money, the key is to save money on a consistent basis- and to start as early as possible to benefit from compounding interest.