This Is Why You Can't Postpone Planning for Your Retirement (And How to Start)

by Alaina Tweddale on 19 June 2014 3 comments

It's no secret that for today's workers, the burden for retirement planning has shifted from employer to employee. What many savers don't realize is that the costs associated with retirement are much higher than many workers expect. Over a 30 year retirement, a $2 million nest egg could provide just $66,000 per year in income. That's without accounting for inflation and the decreasing value of the dollar each year. (See also: How to Calculate Future Value and Why It Matters).

Traditional retirement safety nets are quickly diminishing and the majority of Americans today are worried about not having enough money to fund their golden years.

First, let's look at why they are wise to be worried. Then let's look at what can be done about it.

Why You Need to Be Saving for Retirement

  • Today, only 17% of U.S. companies offer a defined benefit pension plan and that number is shrinking –– fast. Even companies that do offer a pension are pulling back by grandfathering in current employees while offering new hires a standard defined contribution plan like a 401(k), instead. In other words, your chances of finding a company to fund your retirement today are slim and they're getting slimmer every year.

  • The average Social Security beneficiary receives a mere $1,230 a month in retirement benefits. How far could $14,760 per year take you?

  • Even worse, it's estimated that the Social Security trust fund will be depleted in about 20 years. Unless a reform package is approved by then, Social Security retirement benefits will probably decrease by about 25% in coming years. (See also: Is Social Security Just a Grand Ponzi Schem?)

  • The full retirement age for Social Security benefits is on the rise. For upcoming retirees it's age 65, but it goes up to age 67 for those born after 1960. It's expected that the benefits age will rise even further, too, possibly to age 70.

  • Medical expenses are, um, expensive. According to a recent AARP Health Newsletter, a couple retiring at age 65 could need $240,000 to pay out-of-pocket medical costs. This amount assumes the couple is eligible for Medicare coverage (early retirees are not) and doesn't include the high cost of long-term care. Otherwise, the costs go up. (See also: This Is What It Really Costs to Get Sick)

  • If you want to retire early, your medical expenses will be even higher. Much higher. That's because medicare coverage doesn't kick in until age 65 and health care options are limited for those between the ages of 50 and 64. In his book 20 Retirement Decisions You Need to Make Right Now, Certified Financial Planner Ray E. Levitre says, "this age group… is most likely to be denied coverage or be hit with high insurance premiums that are hard to swallow." Private health insurance premiums can range between $500 and $1000 per month, per person (or more). Without proper health coverage, a heart attack, trauma, or cancer can easily cost between $25,000 and $50,000 per year.

  • Life expectancies are longer — much longer — than they used to be. Fifty years ago, the average life expectancy for men was 66.6 years. Today the average 65-year-old man can expect to live until age 84 and one out of every four lucky retirees will live past age 90 (and one in 10 past age 95!).

How You Should Be Saving for Retirement

With modern retirements lasting up to and above 30 years, it's no wonder so many companies have rolled back their pension plans. All those extra retirement years are exciting, yes, but they're also expensive to fund. What's a present-day worker to do? (See also: 10 Easy Ways to Supercharge Your Retirement)

Know How Much You Should be Saving

There are countless retirement calculators online. Run your numbers through one to find out your risk of running out of money before retirement ends. Once you know what you need to save to offset a shortfall, it's that much easier to get started. (See also: How Much Money You'll Need to Retire)

Start Saving as Early as Possible

Treat your retirement savings like you would any other bill: Budget for it and put the dough away each month, as if it were a necessary expense (because really, it is). The earlier you start, the more you can take advantage of compound earnings and, ultimately, the less you'll have to sock away in the long run. Here's a look at what you'd need to save, starting at different ages, to retire with $2 million (assuming an average annual increase of 7% per year and retirement at age 65).

  • Start at age 20 and you'll have to save $510 per month.
  • Start at age 30 and you'll have to save $1,050 per month.
  • Start at age 40 and you'll have to save $2,270 per month.
  • Start at age 50 and you'll have to save $5,600 per month.

The saver who started at 20 saved only $245,000 (the rest of the balance is a result of compound investment earnings). The saver who starts at age 50, on the other hand, will save $1,008,000 to get to $2 million at retirement. (See also: The 5 Most Important Financial Lessons People Learn in Their 20s (Did You?))

1. Take Advantage of Your 401(k) Match

Many employers offer some type of matching provision on their retirement plan. That match is part of your benefits, and if you're not taking advantage of it, you're essentially handing part of your salary back to your employer. If you don't know if your employer offers a match on your 401(k) (or other retirement plan offered by your employer), call your HR manager right away. Two common employer matching programs include a 100% match on the first 3% you contribute or a 50% match on the first 6% you contribute. (See also: How to Make the Most of Your 401(k))

Here's how they work.

  • 100% match on first 3% — This means that if you contribute 3% of your salary to your 401(k), your employer match the equivalent of 3% of your salary in your retirement plan. If you make $50,000 per year, that's $1,500 in free money.

  • 50% match on the first 6% — If you contribute 6% of your salary to your 401(k), your employer will match the equivalent of 3% of your salary in your retirement plan (fifty cents for every dollar you put in yourself). You're required to contribute for money in the plan, but it's still $1,500 in free money (assuming a $50,000 annual salary).

2. Fund Your IRA (and Your Spouse's IRA, Too)

Once you've reached the max of your employer's matching contribution limit, stop contributing to your employer's retirement plan (at least for now — see below). The reason to switch to an IRA at this point is because you can open an IRA anywhere, meaning your investment options are unlimited. Investment experts overwhelmingly recommend a low-cost, diversified portfolio like the target date and life cycle funds available through companies like Vanguard or TIAA-CREF. (See also: 4 Reasons Why a Roth IRA May be Better Than Your 401(k))

You can put up to $5,500 per year away in your IRA ($6,500 if you're age 50 or older). Traditional IRA contributions are tax deductible so long as you make less than $60,000 per year (96,000 if you're married, filing jointly). Roth IRA contributions are not deductible but all investment earnings accrue tax free, meaning you'll pay no taxes on your distributions once you retire. To contribute to a Roth IRA your income must be below $114,000 for the year ($181,000 if you're married, filing jointly).

If you have a non-working spouse, you can open a separate IRA for him or her as well at the same annual limit of $5,500 ($6,500 if he or she is over age 50). Their account is subject to all the same income eligibility rules.

3. Max Out Your 401(k)

Once you've maxed out your IRA(s), it's time to head back to your 401(k) and contribute as much of your income as you can, up to the $17,500 annual cap. You won't get a company match on these additional contributions, but the tax benefit of contributing on a pre-tax basis can be more lucrative than parking your money in a taxable account.

What Can Be Done to Offset a Retirement Funding Shortage?

Okay, so what happens if you haven't started saving early enough and your retirement funds don't look like they'll be sufficient? You have a few options.

Plan to Work Longer

If you can't save as much as you'll need to retire comfortably at age 65, you can always plan to work a few years longer. (See also: Will You Ever Be Able to Retire?)

Reconsider Your Retirement Lifestyle

Perhaps your retirement years will be more spartan than you originally expected or you'll retire in another, less expensive, part of the world. (See also: 5 Incredible Places to Retire Abroad That Anyone Can Afford)

Develop a Second Income Stream

Get a second job, freelance from home, sell your stuff on eBay, or whatever else you can think of to generate extra cash to pad your retirement account. (See also: You Can Earn More Money. Here's How)

Start Saving Creatively

Find creative ways to save more money like by regularly shopping your insurance plans, canceling your cable, or nixing the expensive cell phone plan.

How are you planning for your retirement and what strategies have been most successful for you? Tell us about it in the comments below.

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carlyt

The key to a successful retirement is to start retirement planning and saving/investing early in life, be consistent, take advantage of any employer matching plan, max out contributions when possible, eliminate debt, avoid risks with your nest egg and plan for multiple streams of income once retired (social security, pensions, dividends, part time work, etc.). And you should stay healthy by being physically active, remaining mentally sharp, socially engaged and following a good diet. I use several sites for retirement information including the site Retirement And Good Living which provides information on finances, health, retirement locations, part time work and also has a great blog of guest posts about a variety of retirement topics.

Alaina Tweddale's picture

Right on!

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Jonathan

If the government wasn't using Social Security as a slush fund, over 3 trillion and counting, there would have been plenty of funds there.