“Something to shoot for is to save 15 to 20 percent of your annual income for retirement.” (Jamie Grill/Getty Images)
Accumulating a large nest egg is easier if you begin saving at a young age. The money you stash in a 401(k) by age 35 has 30 years to grow before retirement at age 65. Compound interest will do much of the work of building wealth for retirement. Here’s what it takes to save $100,000 by your mid-30s.
Set a high savings rate. Carefully select the proportion of your salary you allocate to your 401(k) plan. “Something to shoot for is to save 15 to 20 percent of your annual income for retirement,” says Erik Kroll, a certified financial planner and founder of Hilltop Financial Advisors in Wauwatosa, Wisconsin. For example, a worker with a $50,000 salary at age 25 who saves 15 percent would be saving $7,500 per year, or $625 per month. If the account earns a 7 percent annual return, that money would grow to $103,623 in 10 years, according to Kroll’s calculations. If you can’t save that much when you first sign up, consider boosting your savings rate as your salary increases.
Automate your saving. Saving in a 401(k) plan is ideal because the money is withheld from your paychecks before you ever get a chance to spend it. If you don’t have access to a 401(k) account, you can automate your retirement savings by setting up a direct deposit to an IRA or investment account. Many 401(k) plans also allow you to automatically increase your savings rate over time. “You should enroll in auto-escalation if your plan allows for it. This is a system that will automatically increase your savings rate at specified intervals, such as any time you get a raise or quarterly,” says Jared Paul, a certified financial planner and managing director of Capable Wealth in Albany, New York. “This will help people commit to saving more in the future, increasing their likelihood of actually doing it when the time comes.”
Qualify for employer contributions. Many companies contribute funds to employee 401(k) accounts, which makes it much easier to accumulate a large retirement account balance. “Some retirement plans offer matching contributions for every dollar that you put into your retirement savings up to a certain amount,” Kroll says. “If you can get the most out of your employer’s matching contribution, that’s less money out of your own pocket to get to your investment goals.” Also, pay attention to your employer’s 401(k) vesting schedule when making job change decisions. You don’t get to take employer contributions with you until you are vested in the account.
Invest for growth. When you have 30 or more years until retirement, you have time to recover from any stock market declines and can often afford to take on risk in your retirement portfolio. Most financial advisors recommend that relatively young savers invest in equities in order to capture stock market growth over several decades. “Most people in their 20s and 30s have long time horizons until they’ll be using retirement money, so a short-term drop in stock prices is more of an opportunity than a risk,” says Steven Fox, a certified financial planner and founder of Next Gen Financial Planning in San Diego, California. As you approach retirement, you can gradually shift some of your money to more conservative investments.
Avoid high fees. High investment costs reduce your returns and result in a smaller nest egg upon retirement. For investments you plan to buy and hold for several decades, it’s particularly important to select funds with low costs. “Be cognizant of fees inside investment accounts,” Fox says. “They add up quickly and can act as a significant drag on returns and overall wealth.” Your 401(k) plan must provide you with an annual fee disclosure statement that lists the costs of each investment option in the plan. Take a look at this document each year to see if any lower cost investment options are available in your 401(k) account.
Reduce your tax bill. The federal government offers several types of tax breaks to encourage workers to save for retirement. You can defer paying income tax on money you deposit in a traditional 401(k) or traditional IRA, which results in a lower tax bill in the year you make the contribution. Income tax won’t be due until you take distributions from the account. However, if you currently pay a low tax rate, you might want to consider saving in a Roth 401(k) or Roth IRA, which allows you to pay the tax now and take tax-free distributions in retirement. Low income retirement savers may additionally qualify for the saver’s tax credit.
Calculate how much you will need to retire. While $100,000 is a round number to shoot for, consider determining how much money you will need for retirement. “Avoid picking arbitrary amounts that you want to save up, such as $100,000 by age 35 or $1 million by 60, and instead start by working backwards to figure out how much you need to have saved in order to meet your estimated future needs,” Fox says. “Depending on a wide range of variables, having $100,000 at age 35 could put somebody either far ahead or far behind where they need to be for their specific goals and circumstances.”