How to CRUSH Your Savings Goal
Kiplinger's Personal Finance|February 2022
To cross the finish line when you want, find the right target for your retirement savings and follow our training regimen.
SANDRA BLOCK

As anyone who uses a fitness app can attest, setting goals can be a valuable motivational tool. The allure of the couch is easier to resist if your Fitbit or Apple Watch informs you that you’re well short of your daily step or exercise target.

Likewise, visualizing a retirement goal—and working toward a specific number—can motivate you to save, even when retirement is years away. “We’ve found that most people find it helpful, regardless of their age, to have an idea of how much they likely should be saving in order to retire at a reasonable age,” says Tom McCarthy, a certified financial planner in Marysville, Ohio. “Without a target, they just don’t know how much to save, how much risk to take, and which types of investment accounts to use.”

There are plenty of calculators on the internet that will help you estimate your retirement number. But as with any calculator, your results will depend on the information you provide, which may not always be accurate. And even if your data is on target, your retirement number isn’t static. The amount you’ll need to retire comfortably will change throughout your working career depending on numerous factors, ranging from how much you earn, how long you expect to work and your investment returns.

Saving for retirement consists of many moving parts, “and no one’s crystal ball is clear enough to set a number and then stop planning,” McCarthy says. Your target number should be reviewed periodically— ideally once a year—to determine whether you’re on track or need to make adjustments to reflect changes in your life (or lifestyle). This exercise becomes particularly important when you’re in your fifties and sixties when you’ll be able to come up with a better idea of how much money you’ll need to maintain your standard of living.

STARTING OUT

If you’re in your twenties, you should think of saving for retirement as a marathon rather than a sprint. Instead of focusing on the amount of money you’ll need to retire in 40 or 50 years— which may seem completely out of reach—reverse engineer the process. Calculators such as the one at www .dinkytown.net/java/401k-calculator .html will help you see how even modest increases in the amount you save in a 401(k) or other retirement savings plan will compound over time.

For example, suppose you’re 25, earn $50,000 a year, contribute 5% of your pay to your 401(k) and plan to retire at age 67. If you receive matching contributions of 50% on 6% of pay, you’ll have more than $1 million when you retire (this assumes a 3% annual salary increase and a 6% average annual return on your investments). Bump your contributions up to 6% and you’ll have $1.25 million.

At this age, time is your biggest ally, because even a small amount in contributions will grow and compound free of taxes until you take withdrawals in retirement. If you start saving in your twenties, as much as 60% to 70% of the amount you’ll have saved at retirement will come from investment gains rather than contributions, says Ted Benna, a benefits consultant who is credited with creating the 401(k) plan (see the interview with Benna on page 50). “If you wait until age 40 to start saving, it gets flipped the other way—more will come from your contributions than your investment gains,” he says.

You’ll need to save even more if you get a late start and, say, a bear market depresses your investment returns as you approach retirement. Savers who start early, on the other hand, have plenty of time to recover from—or prepare for—market downturns. Starting early also gives you the ability to be aggressive, which means investing most of your savings in stocks—typically via mutual funds or exchange-traded funds—which have historically delivered the highest rate of return.

There’s a good chance you’ll change jobs several times, particularly when you’re starting out. Resist the temptation to cash out your retirement savings plan after you leave your job. A survey by the Transamerica Center for Retirement Studies found that 13% of millennials have at some point in their working years cashed out their 401(k) plans when changing jobs, compared with 6% of Gen Zers and 4% of boomers. Although the amount you’ve saved during your first few years on the job may not seem like much, the hit to your nest egg will be significant. First, the amount you take out will get a lot smaller after you pay taxes and a 10% early-withdrawal penalty on it (you have to be at least 55 and leave your job to avoid that penalty). But you’ll also sacrifice the investment gains you’ve earned. It’s the equivalent of starting a marathon, running six miles, and then returning to mile one. A better option: Roll your savings into your new employer’s 401(k) plan or, if that’s not an option, into an IRA.

Borrowing from your 401(k) may be appealing if you want to pay off high-interest debt. A 401(k) loan won’t trigger taxes and penalties unless you leave your job and don’t repay the remaining balance, but it can still slow your progress. That’s because loans come with an opportunity cost. The amount you’ve borrowed won’t be invested, which means you’ll have to save more to compensate for the lost investment gains. You’ll also pay taxes on the money you use to repay the loan as well as on withdrawals in retirement.

INTERVIEW

ADVICE FROM THE ARCHITECT OF THE 401(K) PLAN

Ted Benna, a benefits consultant, is widely credited with creating the 401(k) plan most companies use today. While a provision added to the Internal Revenue Code in 1978 is the basis for 401(k) plans, it was initially used primarily by senior executives who wanted to supplement their pensions. Benna came up with the idea of using matching contributions to encourage contributions from lower-paid employees. More recently, Benna has developed an alternative savings plan for small employers that want to help their employees save for retirement but find traditional 401(k) plans costly and cumbersome to administer. Kiplinger’s talked to Benna, author of 401(k)s and IRAs for Dum­ mies, about how 401(k)s can be improved and how savers can get the most from their plans.

What advice would you give to a young person who has the opportunity to enroll in a 401(k) plan for the first time?

It’s never too early to start investing, even if it’s only 1% of your pay. Bump up your contribution as you advance and get pay increases. When people tell me they can’t af­ ford to make contributions, I tell them, for one week, keep track of the spending decisions you make that are discretionary. Beverages, entertainment and so on. Once you do that and look at how much you’re spending, decide whether it would be smart to take some of those dollars, even if it’s only $20 a week, and put it in your 401(k).

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