Catching Up if You're Over 50
It's never too late to start saving. Careful planning and aggressive budgeting can help create a strong retirement nest egg even if you've only got ten or fifteen years before you want to retire. Adjusting your current spending budget down to the income you're likely to have in retirement — and then investing the difference to increase your annual savings — will build your nest egg faster, as well as maximize tax savings and employer matches. Choosing the right type of investments for each account will help grow your nest egg by saving on fees and taxes on withdrawals in retirement.
The term “opportunity cost” is one that you'll hear often when discussing investing. Simply put, it means the lost ability to do something else with money that's locked up in some sort of investment. If an investment is underperforming another investment opportunity, the opportunity cost is the difference between the returns on the two alternatives.
Expectations about Future Contribution Limit Increases
Tax laws are often written to encourage a specific behavior. The laws governing retirement accounts are no different. Recent tax law changes that allow greater contributions to retirement savings provide a clear message that individuals need to be saving for their own retirement and not betting on social security.
Because of their tax benefits, retirement plans are usually restricted by limiting the amount you can contribute annually and by capping your eligibility to contribute based on your income. These limits will change as the laws are updated; it's important to check
Using the Employer Match
Employers encourage employees to save for retirement by offering to match their contributions to the employer's retirement plan. This match is often expressed as a percentage of what the employee deposits. For example, your employer will match 50 percent of your contributions until your contributions reach 6 percent of your pay. In this case, you want to contribute at least 6 percent of your pay in order to get the match. This match amounts to free money to you, money that you won't get as salary if you don't contribute to the plan.
Don't forgo emergency-fund saving in order to contribute to a retirement plan. Retirement plan withdrawals are often taxable and can carry penalties, so you shouldn't rely on them for short-term expenses or emergencies. Be sure you have emergency money in a savings account as well as money invested toward your retirement.
Your personal contributions to a retirement plan are always your own, but your employer's match will be limited by a vesting schedule. This means that you don't own the employer's contribution until you have worked at the company for a specified number of years. The employer contribution will appear on your statement, along with information about how much of that contribution is vested. Schedules vary, but are often spread over three, five, or seven years. If you're planning to leave your job, make sure you understand the employer's vesting schedule.
Choosing the Investments
Plan providers such as your employer, bank, mutual fund, or insurance company will post asset allocation tools on their websites to help you choose the mix, or allocation, of various stock, bond, and cash investments you want in your account. Chapter 10 will teach you how to use these tools, but it's important to note that they're especially critical when it comes to your retirement funds. Investors too often pick the accounts in their plans without regard to their risk or how their balances will fluctuate from month to month. This can hurt you in any account, but especially in a long-term account such as a retirement plan.
Ask your employer about the fees in their plan. Many employers have negotiated special agreements with plan providers that save their employees money, but some companies are too small to do this. If your employer's plan is expensive and doesn't offer a match, you may decide that investing in a personal plan instead will make better sense.
Fees within the investments are not paid by you directly, but are subtracted from the investment account itself, directly reducing the fund's performance and invisibly degrading your account value. A report from the investment provider called a prospectus will detail these fees, and you should look closely for them.