You may think, why should I enroll in my company retirement plan now?
This is a great question. We're glad you're asking!
- It’s easy to save: contributions will be automatically deducted from your paycheck.
- You may receive employer-matched contributions. If so, that's “free money,” and after all, who doesn’t like free money?
- There are tax benefits to saving with pre-tax and/or Roth dollars. With pre-tax contributions, you receive some tax benefits in the year you contribute to your plan. With Roth contributions, the tax benefit comes later, during retirement when the principal and interest may be withdrawn without taxes*
- 401(k) and 403(b) plans allow you to save more tax-deferred dollars than you can with IRAs.
The most important thing to consider is your future self and your future financial needs. Let’s take a moment to think about why we need money in the first place. Our basic needs - food, shelter, transportation, medical expenses - never go away and Social Security only usually covers about 25-35% of those expenses. It’s important to keep in mind that your retirement savings will be needed to supplement what you receive from Social Security.
How much do you need?
Current studies (as of the time this article was published - 2021) show that the typical couple retiring today will need about $300,000 for medical expenses, and about $326,000 for food expenses, during their retirement years!
The general consensus is that we need to have enough income in retirement to replace 70-80% of the income we were accustomed to prior to retirement.
For example: if you make $45,000 a year now and retire tomorrow (at age 65), it is estimated that you might be able to live off of about $32,000 - $36,000 a year. How can you live off less? If you’ve been a wise planner - if you have large debts (e.g., your home mortgage) paid off; if your grown children are no longer financially dependent on you; if you’ve eliminated or kept your credit card or other debt to a bare minimum - you may be pleasantly surprised at your ability to live off of less income.
Take a look at the chart below to help you estimate how an average 3% annual inflation rate might impact your income needs and cost of living as you approach retirement.
$45,000 current income with inflation:
You’ll always have basic needs. Think about your current budget: which expenses will change, which will remain the same? Even if your mortgage is paid off, you’ll still have utilities, maintenance, taxes, insurance, groceries, unplanned expenses, etc.) Work the math backward - from how much you need in retirement to how much you need to save while working. No two individuals’ situations are identical, but, generally saving about 15% of your current income will help you be ready when retirement comes. That figure may need to be further adjusted for your current age and time until retirement to determine, specifically, how much you as an individual should be saving right now. The important part is to start saving - even a little bit, at first. From there, even incremental increases, over time, can really add up.
Before retiring, it may be challenging to project your needs, but don’t make the mistake of thinking you have plenty of time. Waiting even a few years can significantly dampen your chances of reaching your retirement savings goals. See our article “How Much Should I Contribute” for an example of how starting younger can really make a significant difference.
Time waits for no one - but (financially, at least), you can use it to your advantage!
*Roth withdrawals are tax and penalty-free if you are at least age 59.5 and as long as you have had the Roth account for five or more years. Please see our article “What is the Difference between Pre-tax, Roth, and After-tax Contributions?” for more information.
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