One million dollars is not simply "a lot of money." It is an important psychological level of wealth for many investors, and getting there can see like a daunting task for those who are in the early stages of their investing career. However, getting to a million can be a lot easier than you may think. Here is a guide to getting your portfolio into seven figures using readily available investing methods and a minimum of effort on your behalf.
Yes, you can afford to save!
Before you can begin seriously investing, you need to set yourself up for success. Do you have high-interest debt such as credit cards? Paying that off should be a very high priority! Even if your investments give you 15% returns, it's meaningless if you're paying 25% interest to a credit card company.
Once your debt is under control, the first thing you should do with each paycheck is to set aside a certain amount for your savings. We'll discuss how much you should be saving a little later, but make it an automatic process, not a choice.
Use your tax advantages
One of the best investing tools you have is the ability to let your money grow tax-free until your retirement. There are certain income limitations, but most people have the choice of a traditional or Roth IRA, and can deposit up to $5,500 per year.
How much of a difference does tax-free compounding make? Well, short-term gains are taxed at your ordinary tax rate, and long term gains and dividends are taxed at 15% for most people. However, let's consider a simplified example. Let's say you invest the maximum ($5,500 per year) and that your investments appreciate 5% annually and also pay 5% dividends. Consider the difference taxing the dividends makes over 30 years.
The difference is more than $100,000! And it gets even bigger over longer periods of time.
How much do you need to put away?
Now for the fun part! The sooner you start, the easier it'll be to get to our million-dollar goal. Historically, the S&P has delivered total annual returns of just under 10% on average, so let's be conservative and assume 9% average investment returns.
If you have 30 years until you plan to retire, putting aside $8,000 per year (or around $665 per month) will get you to a million. If you have 40 years, the amount you need to set aside drops drastically to $3,000 per year, or just $250 per month. So, if you get paid bimonthly, just $125 out of each paycheck will allow you to retire as a millionaire! The chart below illustrates the various monthly savings goals for a variety of timeframes to reach $1 million.
An action plan
The best thing you can do is to get started as soon as possible. As far as investment options are concerned, it depends how active you want to be and how much risk you can tolerate.
If you have the time to research and choose individual stocks, focus on companies that not only pay excellent dividends, but also have a great history of raising the payout amount. There is a great list here of all companies who have raised their dividend for 25 or more consecutive years.
If you'd rather take a more "hands-off" approach, there is nothing wrong with putting your money in index funds. As I've mentioned already, S&P index funds average a total return of nearly 10% annually, which would beat the estimates in our chart. For a little diversification, consider putting some money into global stock funds, bond funds, and other index funds.
If you invest early and wisely, and have the discipline to do it regularly, a $1 million portfolio should be a lot easier to achieve than you may think!
Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.