Retirement strategies you can’t afford to ignore
Years have passed since Benjamin Franklin wisely counselled people that if they wanted to be wealthy, they had to think as much about saving as about getting. Since then, other retirement strategies have been devised, ridden the wave of trendiness, and then been abandoned to changing economic and cultural circumstances.
But still there is a truth to starting every retirement strategy with a solid savings plan. In fact, if you want the ultimate success strategy to having as much money as you need when you retire, from the very first moment you receive a paycheck in your 20s, you would put 15 percent of it away in savings.
David Chilton, the Canadian storyteller who 20 years ago took the investment world by storm with his bestselling The Wealthy Barber built around the benefits of saving and achieving compound interest, three years ago took up the cause again with his sequel, The Wealthy Barber Returns.
He explains how saving and living within your means as a retirement strategy is a mindset that if cultivated, will prepare you for many golden years ahead. It’s not that he doesn’t think you can try to do some of the things your friends do, or make the occasional renovation on your house, but if you neglect the rule that “spending begets spending,” then you will be doomed to a life of playing slave to the cruel master of debt.
Chilton reminds us that the four most expensive words in the English language are “while you're at it” and the four most expensive letters are HGTV (Home and Garden Television) that spur people to spend more than they have in their budget.
There’s truth to the validity of saving as a key foundation of any retirement strategy. Consider if from the age of 25 onward, you put away $3,000. You could secure it in a tax-deferred retirement account.
If you did that every year for 10 years, and then, at 35 and perhaps with a growing family that made it impossible to save for a few years, you had to stop, do you realize that the $30,000 you had saved in that one decade would turn into $472,000 when you wanted to retire at age 65, thanks to be benefits of compound interest. These figures were calculated assuming there would be an eight percent annual return, which is reasonable to assume.
What do these tax-deferred savings vehicles look like in the United States?
The two most common ones are Individual Retirement Accounts (IRAs) and 401 (k)s. For many employed individuals with good benefits, the latter is a great vehicle because often the employer will match whatever you put into it. Your $3,000 a year, for example, can become $6,000 and look then how fast that adds up.
By tax deferred, this account means that you do not have to pay taxes on the money you invest or the interest you are earning on it until you start withdrawing this money when you retire. At that point your income is substantially reduced, so you will end up paying a lot less in taxes.
But if tax deferred savings accounts build the foundation of your financial retirement home, where do the walls come from?
You need other tools to build from your foundation and those primary tools are stocks and bonds. Let’s say you keep another savings account just for investment purposes. You raise $100,000 over another decade and decide to invest it in those building tools.
The rule then is that the younger you are, the more of that investment you should put into stocks, and correspondingly, the older you are, the more you should invest into bonds. That is because stocks are more volatile and they will go through periods of ups and downs and you must have time to ride them out before you have to cash them in. Bonds are far less volatile, so they are considered a safer investment.
But you pay a price for safety. In the years between 1926 and 2009, for example, the average rate of return on stocks was 9.8 percent, but the average rate of return on bonds was 5.4 percent.
As a general rule, financial advisers will counsel their clients to decrease the stock percentage of their portfolio as they get older. For example, it might be 50 percent when they are 60, 40 percent in their 30s and only 30 percent in their 80s, or even less if the person is extremely risk-adverse.
What other tools will build your retirement security?
You may have private pension plans from your work place, and social security payments as well. You can also buy into other investment mixtures, including the popular mutual funds. These are open-ended funds operated by investment firms who take money from their shareholders and invest it into a group of assets. Their popularity as a retirement financial plan strategy remains high, although they too can be subject to the volatility of the financial market.
The number one question people have about their retirement strategy, figuratively the roof of their financial retirement home, is “how much money do I need?” The traditional answer to that question used to be 60 to 70 per cent of your working stage income.That is proving not to be the case anymore as baby boomers begin to retire in record numbers. With significant assets and energy, instead of slowing down the pace of their lives, they want to travel, buy their dream homes, renovate their current homes and live life to the fullest.
Many baby boomers will need closer to 90 to 100 percent of their current income. If they have not been prudent with their savings over the years, they will have to achieve that by working longer, taking part time jobs to augment their retirement income, or disposing of some of their hard assets like homes and cottages.
This challenge of having “enough” in retirement will continue to grow in importance. Consider that according to the latest figures from the US Census Bureau, there are currently just over 40 million Americans aged 65 and older and they comprise 13 percent of the population. By 2030, people over 65 will make up 20 percent of the population.