When it comes to your finances, money management, and ensuring that you have the funds needed to retire comfortably, the more you understand about the processes that get you there, the better you’ll be able to prepare for your future.
Today, we’ll be diving into the four questions you have to ask yourself when it comes to saving for retirement. As you may know by now, you can’t rely on social security to be enough if you’re looking to retire comfortably. Currently, social security will likely make up 30-40% of your income when you retire, meaning it’s on you to find the rest.
When it comes to how much money you need when you retire, the philosophy today is you’ll need 70-80% of current income to live comfortably. You should also have 10 times your ending salary saved up by the time you retire.
A good rule of thumb to adhere to is you should work towards having the equivalent of your yearly savings saved up by the time your 30. By the time you turn 40, it should be 3 times your yearly salary, and 6 times by the time you turn 50.
The earlier you save for retirement, the better off you’ll be in the long run. For example, if you save $100 per month straight out of college, at the age of 22, assuming an annual rate of return of 8%, you will have $412,436 saved up at age 65, a typical retirement age.
For every year you wait to start saving, that ending number will go down dramatically. Let’s say you wait just 5 years to start saving. When you turn 65, your total amount saved will be $275,701. Yes, that is still a lot of money, but it’s not nearly as high as could be.
So, the earlier you start, the better off you’ll be in the long run.
When it comes to saving money, 401(k)s are a great method to use. The contributions come right out of your paycheck and into your retirement account. With a 401(k), you can take the money with you even if you leave your current employer, and if you choose to go with a traditional 401(k), you may pay less in taxes as contributions made through a traditional 401(k) are tax-deferred.
Enrolling in a 401(k) is easy enough, but there are four key questions you must address in order to come up with the right plan for you.
First, you have to decide how much to save. Then, figure out which contribution is right for you and which investment funds you will invest in. Last, you’ll decide who will be your beneficiary or beneficiaries.
Let’s discuss each of these four steps more closely and how you can come up with the right decisions to prepare yourself for a comfortable retirement.
How Much You Should Save?
Experts agree that when it comes to figuring out how much money you should put towards your 401(k) every month, 10-15% of your paycheck is the perfect amount. While that may sound like a lot, it can seem like less of a burden if you work your way up to it. For example, you can increase your referral by 1-2% every year. The best time to do this is when you get a pay increase.
And, if your employer offers a matching contribution, utilize all of it. Otherwise, you’re leaving a lot of money on the table.
Which Contribution Option is Right For You?
There are two options within most 401(k) plans. First, you can choose to invest your there is the traditional 401(k). With this option, you’ll see less of an impact on your paycheck because you won’t pay taxes on any of the money you contribute to your account. But, when you take it out of the account during your retirement, it does become taxable.
The second option is known as a Roth 401(k). If your plan offers a Roth 401(k) option, understanding the difference is important. Contributions to a Roth 401(k) are taxed as you make them, which is why Roth contributions have more of an impact on your paycheck now. However, when you take the money out at retirement or for a qualified distribution, since you
paid taxes on your deferrals as you made them, you do not have to pay taxes on the contributions or your earnings.
You are making the decision to choose Pre-tax (Traditional) or Roth for your own contributions only. If your company offers a match or profit-sharing contribution, those funds are Pre-tax dollars. Company contributions and their earnings will be taxable at the time of withdrawal.
Which is right for you?
Some factors to consider when making your choice are:
• Your age and your time horizon until retirement. Generally, the longer your money remains in a Roth 401(k), the longer that money can grow tax-free and offset the upfront taxes you pay. Yet, there may still be benefits for you in a Roth even if retirement is near. Keep in mind that you must be 59 ½ and have had your money in the Roth for a minimum of five years from the point of your first contribution to be able to withdraw your earnings tax and penalty-free.
• Your current income tax-bracket and your anticipated bracket in retirement. Some experts say if you think you’ll be in a lower tax bracket when you retire, you might want to contribute to a Pre-tax (Traditional) 401(k). If you think you’ll be in a higher tax bracket when you retire, you might want to contribute to a Roth 401(k). However, you’ll need to consider the amount of your contribution vs. the amount of earnings when you make this decision.
• Whether or not you want to leave tax-free money to beneficiaries. Contributing money to a Roth 401(k) allows your money to grow tax-free. And, you can avoid taking Required Minimum Distributions (RMDs) at age 70 ½(SECURE Act recently change this to 72) by rolling your money, after you retire, into a Roth IRA, which is not subject to RMDs. If you are unsure which option is right for you, please consult with your accountant or tax preparer.
Which Funds Will You Invest In?
Your 401(k) plan is a “self-directed” retirement account, so it is your responsibility to decide how to invest your money. Each contribution you or your employer makes into your 401(k) plan is invested in mutual funds. For many, the thought of being responsible for investment decisions is stressful—but it doesn’t have to be. Trust Point has simplified the process for
you by creating two separate paths to successful investing: choosing a Investment Profile or create your own portfolio.
If your employer has a Trust Point 401(k) plan, you may have access to Trust Point’s 5 Profile Funds.* Trust Point has created 5 Profile Funds that are designed to be age and risk tolerance based. If you choose to invest in a Profile Fund, you would put 100% of your assets in 1 of the 5 profiles. Each Profile Fund is actively managed by Trust Point’s Investment Team and consists of 10 to 25+ mutual funds designed to provide you with different levels of risk and return.
Investments can be divvied between stocks and bonds.
Some important things to keep in mind when it comes to the stock vs. bonds decision:
- Stocks are riskier than bonds. Bonds do have risk, but it is less than that of stocks.
- With stocks, you are the owner of the company you own the stocks of.
- You’ll earn money through stocks when the company is prosperous, when their stock price increases, or when they pay dividends to their shareholders.
- With bonds, you are a loaner, where whichever company you loan the money to will pay you an income or interest for a specified period of time, then give you your money back.
Because stocks are riskier than bonds the more stock exposure you have in your investment portfolio, the more risk you take on. However, you stand to gain more with stocks than bonds. In other words, you have to carefully factor risk and reward when making a decision on where to allocate your investments.
Here is a breakdown of the risk-based profiles we offer here at Trust Point:
Fixed Income – 100% bonds
Conservative – 20-40% stocks, 60-80% bonds
Balanced – 40-60% stocks, 40-60% bonds
Moderate – 60-80% stocks, 20-40% bonds
High Growth – 80-100% stocks, 0-20% bonds.
If you’re not sure how much risk you want to take on, it’s recommended that the further you are from retirement, the more risk you should have—as long as you’re comfortable with it.
IF YOU ARE A SEASONED INVESTOR who understands and gets excited about terms like “active vs. passive management,” “rebalancing,” and “asset classes,” then creating your own investment portfolio may be the option for you. Your plan should include individual mutual fund options across a variety of asset classes. From these options you can create your own portfolio.
Who Will Be Your Beneficiary?
The last decision you must make when it comes to your retirement planning is who will be your beneficiary—the person(s) who will receive your retirement savings if something were to happen to you.
There will be two types of beneficiaries that you will need to identify.
First, there is your primary beneficiary, or the person(s) first in line to receive the money. Next, you’ll have to name your contingent beneficiary—the person who will inherit the money if the primary beneficiary passes away before you.
An important thing to keep in mind when choosing your beneficiaries is that if you’re married but are not giving all your money to your spouse, they must sign a beneficiary designation form to prove that they are aware of this.
To learn more about Trust Point’s retirement plans or if you have questions about your employer’s retirement plan and your options, contact us today!
*Trust Point also works with employers who offer Target Date Funds. You can put 100% of your assets into the Target Date fund that most closely matches the year in which you plan to retire
and/or start using the money. All Target Date funds consist of a mix of underlying stock and bond mutual funds. These funds are designed to decrease stock exposure as you near retirement, so you don’t have to worry about changing your investments unless your circumstances change. IF YOU ARE NEW TO INVESTING or do not have time to stay on top of current economic and market trends, this may be the option for you.