It's the 800-pound gorilla in the room that few people want to talk about or deal with, but choosing to save for retirement and making the right long-term investments are among the most important decisions you'll ever make.
On the surface, saving for retirement would appear to be pretty simple. Individuals and couples formulate a budget, stick to it, and invest their savings into money-making investment vehicles over the long term. But, if we've learned anything from life and investing in general, it's that things rarely go according to plan. Instead of your retirement path being a straight line from Point A to Point B, it often winds up with some hairpin turns and unexpected detours, such as starting a family, buying a home, or dealing with a financial emergency. Long story short, retiring comfortably is a lot harder than it looks.
The first step to retiring comfortably, and on your own terms, is to determine what your retirement number is. While completely fluid, a retirement number is nothing more than the amount of money you believe you'll need to save in order to live comfortably in your golden years. Future retirees understand that they'll likely have a Social Security benefit payment waiting for them once they file for benefits between age 62-70, but at an average payment of just $1,223 per month as of July 2015, retirees are probably going to need a nest egg to lean on if they hope to live comfortably.
How much you should save for retirement
With this in mind, Harris Poll, on behalf of Transamerica Center for Retirement Studies, asked 4,550 full- and part-time workers aged 18 and up at for-profit companies how much money they believed they'd need to retire comfortably. As the findings showed, the answers varied wildly depending on the age of the respondent.
Baby boomers, or those born between 1946-1964, believe they'll need $1 million to retire comfortably. By contrast, millennials (defined as people born between 1979-1996) believe they'll need closer to $2 million to retire comfortably. A clean third of millennials believed they'd need $2 million or more to retire comfortably compared to 30% of Generation X respondents and just 27% of boomers.
Transamerica cited the Great Recession and its effect on consumers' finances as the primary reason why we're seeing such a disparity between baby boomers and millennials. Its survey showed that 40% of respondents believe they have "somewhat" recovered, 15% haven't yet begun to recover, and 8% of respondents don't believe they'll ever recover what they lost during the worst recession in 70 years.
Although it wasn't mentioned by Transamerica's survey, the jobs market could also be to blame. Even though we're currently at an unemployment rate of 5.1%, the lowest rate since 2008, underemployment remains a serious concern. Part-time workers who'd rather be working full-time, discouraged workers who want to work but are unable to find a job, and disengaged workers who are working at a job that isn't commensurate with their skill set, may be having difficulty earning enough income to adequately save for their retirement.
It's also worth noting that despite the wide variance in answers between generations, when inflation is factored in the difference of $1 million disappears. Historically, inflation runs close to 3% per year, which means the prices for goods and services will double around every quarter of a century. Therefore, millennials' response to Transamerica's question closely parallels the thinking of boomers even if there is a $1 million variation between the answers.
Reality meets a plan
Unfortunately, neither boomers, Generation X, or millennials are anywhere near prepared for retirement, according to Transamerica. Its findings suggest that the estimated median household retirement savings in 2015 was just $63,000. If there is some solace here, at least it's up from the $49,000 Transamerica estimated in 2011.
Yet, a lack of actual retirement savings is far from the only concern. The number of people guessing at their retirement number in 2015 actually rose to 53% from 50% in 2011. Additionally, a vast majority of respondents are concerned that Social Security won't be fully funded when they retire. Nearly two-thirds of boomers (65%) shared this concern, while 83% of millennials and 85% of Generation X believe full Social Security funding will not be there for them when they retire.
So, how can this be fixed? Taking a few simple steps to heart could be the answer.
Clearly the first thing that needs to be addressed is America's knowledge gap when it comes to figuring out their retirement number. While I'm not a stickler for having a concrete number in place, guessing is not acceptable in my opinion. Instead, workers should consider devoting a little bit of their time each month to understanding their cash flow. When working Americans understand how much they spend and can factor in when larger obligations, such as a mortgage or perhaps car payment, might be paid off, then, and only then, can they make a generalized assessment of how much money they might need on a monthly basis during retirement. Understandably, the closer you get to retirement, the more accurate this assessment. Nonetheless, without taking this step it's next to impossible to formulate a reachable and reasonable retirement goal.
How you invest is also important. When asked what would be their primary source of income during retirement, Transamerica's survey showed that 48% of millennials and 40% of Gen-Xers cited a 401(k), 403(b), or an IRA as their expected top income source. Boomers, on the other hand, listed Social Security as their top income source. This is bad, bad, bad all the way around.
As mentioned above, relying on Social Security for the majority of your income in retirement isn't a good idea. The Social Security Administration expects the Old-Age, Survivors, and Disability Trust (the fund that pays benefits) to exhaust its cash reserves by 2033. To be crystal clear, this doesn't mean the OASDI is insolvent, but it does mean a benefit cut could be in the offing for beneficiaries by 2033 if new revenue can't be generated. Thus, boomers leaning heavily on Social Security could be in for an unpleasant reality check.
The smarter idea is to do exactly what millennials and Gen-Xers are doing -- investing their money in tax-advantaged retirement accounts that defer their taxation, or in the case of a Roth IRA, exempt them from taxation, as long as they make no unqualified withdrawals. I know what you're probably thinking, "Wait, didn't you just chastise millennials and Gen-Xers above?" The answer is yes, but not for their actual investments. Instead, I'm pointing the finger for only 48% and 40% of respondents choosing these tax-advantaged funds as their primary income source. These figures should be around double where they are now, and it demonstrates that young adults either aren't taking full advantage of available tax-advantaged accounts, or they don't know they exist.
Lastly, the responses in Transamerica's survey concerning the nearly one-quarter of people who've yet to recover from the recession or believe they'll never recover suggest that far too many approach investing without a long-term mind-set. It's certainly possible that select stocks are still down from their 2007 levels, but an investor who has held high-quality stocks over the last decade or beyond is much more likely to be up than down on their investments. With life expectancies on the rise, boomers still have plenty of time to pad their nest egg by investing in high-quality stocks, while Gen-Xers and millennials also have decades to use compounding to their advantage.
Don't let these common pitfalls hold you back from the retirement you deserve.