What makes this retirement especially sweet for Katherine (not her real name) is that she was able to launch it when she was only 60 — well under the age at which many Americans can retire in comfort. Starting out with no family money and never marrying, she laid the financial groundwork based only on her own earnings, and without living a life of self-denial: “I take nice vacations, and I go out to eat whenever I want,” says Katherine. She owns her apartment outright, too. “I’ve just always been a saver,” she says, “but I don’t go nuts over it.”
While Katherine’s situation may not match yours, you could follow her lead by taking these steps to help build your nest egg into one that will help finance a satisfying retirement.
Setting realistic goals
When it comes to saving for retirement, pay attention to the fabled tortoise and the hare: Slow and steady wins the race. The sooner you start saving, the more time your investments will have an opportunity to grow — and the smaller the percentage of your earnings you’ll likely need to set aside to reach your goal. Boston College’s Center for Retirement Research, for example, suggests that if you’re an average earner and you want to retire comfortably at age 65, setting aside 10% of your total income starting at age 25 could be a good place to start. Wait until 35, and you’ll likely need to save 15%. Those percentages include any employer contributions to your retirement account.
Those percentages line up with Katherine’s efforts. Between her and her employer’s contributions to her retirement account, she steadily put away 13% of her paycheck over nearly three decades. She also banked income she earned outside her regular job, and for many years put an extra $400 a month in the bank.
Automating your savings
Saving that much of your salary may seem impossible — especially if you have other obligations, like student debt, a mortgage or childcare — but there are ways to help make it easier. As of March 2016, 62% of American workers in non-government jobs had access to a 401(k) or similar retirement plan, according to the Bureau of Labor Statistics Opens in new window. (82% of workers at companies with 500 workers or more employees had an available plan.)
If you have a 401(k) or other retirement account at work, the amount you choose could be deducted from your paycheck automatically, either before taxes with a traditional account or after-tax if your employer offers a Roth option. (In both cases, money you contribute has the potential to grow tax-free; with a traditional account you pay tax only upon withdrawal generally at retirement; with a Roth, withdrawals after age 59 1/2 from accounts held at least five tax years are free of federal taxes.)
Is money tight? If your employer offers a match, setting aside enough pay to earn your employer’s full contribution could be a good place to start—it’s like “free money”, so you may not want to leave it on the table. For example, if your employer matches 50 cents for every dollar on the first 6% of pay you contribute — a common setup — your 6% contribution immediately becomes 9% in your account. Then, once a year, or anytime you get a raise, consider bumping up your contribution slightly.
“Fifteen percent is a big chunk of money to a lot of people,” says Jill Gianola, a certified financial planner in Columbus, Ohio. “But if you can raise your contribution by a percentage point each year, you could get there, and you likely won’t even notice it.”
Considering a Roth IRA
Don’t have access to a workplace plan, or want to supplement your savings? Consider setting up regular transfers from your bank account to an Individual Retirement Account (IRA) or a regular brokerage account.
Unlike the case with a traditional IRA, contributions to a Roth IRA aren’t tax-deductible. But money has the potential to grow tax-free and qualified distributions are free from federal taxes upon withdrawal. There are income limits for direct contributions to a Roth IRA. But, if you have no other traditional IRAs, you can make a contribution to a traditional IRA and convert to a Roth IRA for the same result.
Roth IRAs (and Roth 401(k)s) could make the most sense if you don’t need a current tax break or expect your tax rate to be higher when you withdraw than when you contribute — a common situation if you’re early in your career.
Also, Roth IRAs could be particularly good choices for younger adults who may want to access some of their savings sooner than later, says Gianola. The reason: You can withdraw contributions (but not earnings) well before retirement without facing taxes or penalties. “It isn’t money you’re locking up for 30 years,” she says.
Choosing your investments
Once you’ve committed to saving, the next step is actually choosing what to invest in — specifically, what portion of your savings you’ll invest in stocks, what portion you’ll put in bonds and what amount you’ll leave in cash or in other assets.
That aspect of investing — “asset allocation,” as it’s formally known — can be crucial, says Jeremy Stempien, portfolio specialist at QMA, an asset manager owned by Prudential Financial. “Outside of saving enough,” Stempien says, “it’s one of the most critical factors in successfully saving for retirement.”
The reason is that different kinds of investments pose different risks and different potential rewards, which means they can perform differently at different times. The goal is to try to create a mix of investments appropriate for your risk tolerance (how well you stomach the market’s inevitable ups and downs) and time horizon (how long until you’ll need your money). So, to help temper the risk of one investment dragging down your whole portfolio, you may want to consider investing across the major asset classes (stocks, bonds and cash equivalents) and diversifying within them (e.g., large, small and foreign stocks). Asset allocation does not guarantee a profit or protect against a loss in declining markets and investing and it is possible to lose money when investing.