Saving for retirement should be on everyone's financial to-do list. Unfortunately, for many people, it's hard to get started. It can be difficult to know what goals to set for yourself, and it may seem overwhelming to figure out how to invest your money in a way that balances risk and returns.
While you may be daunted by all the steps you have to take to start saving, it's important you don't let that deter you. The majority of older Americans wish they'd started saving sooner, and you don't want to be left with any regrets because you waited.
The good news is, it's really not hard to begin putting money aside for your later years. You just need to follow these simple steps.
1. Set a savings goal
Knowing how much you need to save is a good first step, as the big goal you set will guide you in deciding how much to invest each month and each year. While it's difficult to predict the amount of money you'll need decades into the future, there are a few proven methods of estimating how large your retirement nest egg needs to be.
One of the simplest is to aim to save 10 times your final salary by retirement. Estimating your final salary is a simple matter of taking your current salary and adding 2% for each year until your projected retirement age to account for likely raises. If you were making $40,000 this year, you'd project a salary of $40,800 next year, $41,616 the following year, and so on until your likely retirement age. After you've figured out your estimated final salary, just multiply it by 10 to set your savings goal.
Alternatively, as many experts recommend you need to replace about 80% of the income you were earning prior to retirement, you can use that final salary number to decide how much income your investments have to produce. Then, if you plan to follow the 4% rule and withdraw 4% of your account balance your first year of retirement, you'd multiply that number by 25. So if you wanted your investments to produce $50,000 in income, you'd need a retirement nest egg of $1.25 million.
Either of these approaches can give you a pretty good idea of the size of the nest egg you'll need as a senior and are a great starting point for setting your savings goal.
2. Choose the right type of retirement account
Next, you'll need to pick a tax-advantaged retirement plan to invest in.
Tax-advantaged accounts such as traditional IRAs and 401(k)s allow you to get a tax break when you make your retirement investment, while Roth 401(k)s and IRAs provide tax savings when you take money out. If you think your tax rate is higher now than it will be as a senior, you may want to opt for a traditional account. Traditional accounts can also make it easier to save now if you're short on cash, since your taxable income won't be reduced as much when you invest in one.
If you have a 401(k) at work, this can be the easiest type of retirement account to use since you just sign up at your job. But it's not hard to open an IRA with any online broker, as many don't have any minimum balance requirements for IRAs and most don't charge a fee for IRAs.
3. Set up automatic contributions
Once you've got your 401(k) or IRA opened, sign up to have money automatically invested in it. That way, you can set up your plan once and not have to think about it any more. You make sure you're getting the money you need transferred into your accounts, since it will be invested automatically without you having to do anything.
If you have a 401(k), you can talk with HR or the 401(k) administrator to have automatic contributions taken directly out of your paycheck before you receive it. If you've opened an IRA with a broker, your broker should allow automatic contributions to be scheduled on a certain day if you sign into your account and set them up. Choose your payday for the contribution to be deducted so the money is taken out before you can spend it.
Ideally, you should set up a contribution amount that will give you enough to hit your retirement savings target. There are online calculators you can use to figure out how much to sock away each month to meet your goal.
4. Decide how to diversify your assets
The final step is to build a diversified portfolio so you can minimize the risk of losses and maximize the potential your portfolio will perform well.
You can do this by investing some of your money in individual stocks of companies in different industries and putting some of your money into bonds or other safe investments. You'll want some basic investment knowledge if you take this approach, so you can make sure you evaluate whether a company you're investing in is financially sound and poised for growth.
Ideally, you should subtract your age from 110 to figure out the percentage of your assets that should be invested in the market. If you don't want to pick individual stocks to buy, you can also buy exchange-traded funds (ETFs) that give you broad exposure to different kinds of companies. Check out our model portfolios to help you get started.
Get started saving for retirement today
Taking these four simple steps will help you to start investing for your future, so you don't look back later in life and regret that you didn't save enough. It only takes a few minutes to get started and, once you have the process under way, building a big retirement nest egg shouldn't take much effort at all. Just get started ASAP because the younger you are when you begin saving, the easier it is to hit your retirement goals.