LAW #4: Save for Your Retirement Strategically and Wisely, No Matter When You're Starting
The Law
How much you should be saving for retirement is an age-old question that everybody wants to know how to answer. Although the answer has a lot to do with when you plan to retire, and the type of lifestyle you want, any retirement plan's bottom line is to decide on a number and aggressively tackle it. The only way to live out a comfortable lifestyle you’ve grown accustomed to is to grab retirement by the horns and get to work.
Your Keys to Power
Step 1: Consider Social Security. Many residents of America, employees and the self-employed, will likely have access to Social Security Benefits. Even if the benefits reduce over time, it's unlikely that Congress will eliminate the program in the lifetimes of most working-age people on the planet today. If you don't know what your retirement benefit might be, that's your first step—figure that out, and we'll show you how.
We diverge from any retirement advice, calculator, or planner out there that doesn't start first with obtaining a Social Security Statement of benefits. We understand why people say, "don't count on the government for your retirement," and we agree in spirit, but this money available to you because you’ve participated in the system through payroll taxes. It is yours as a benefit from the very government you’ve helped fund. So until we see a political climate primed to end the program, and the government stops asking for 6.2% of your money (!) with a match from your employer of 6.2% (or the entire 12.4% from you if you're self-employed), we want you to consider your rightfully earned benefit.
So make your first stop the Social Security Administration's benefit registration page, register an account, and get your statement. Take a look at a sample online statement here to see the incredible wealth of personal information that no one—no bank representative, online calculator, or uninformed advisor—can know about you unless you do the leg work to get this information.
You'll find details about your retirement benefits, which will give you precise information about how much you'd likely earn as things stand right now if you retired between ages 62 and 70.
You'll also find information about your disability benefits should you become disabled during the year you pull the statement.
Finally, you’ll see your death benefits should you die the year you pull the report.
Make it an annual habit to review this statement. Over time, your retirement benefits may update.
Step 2: Add up any current savings. This next step is effortless. Add up everything you have saved for retirement, including savings accounts and the total value of any plans like a 401(k). Let's get the basics out of the way to make sure this makes sense.
What is a 401(k)? A 401(k) is a plan for retirement savings investing that some United States employers offer employees. The IRS does not tax your contributions to a 401(k) plan. Therefore, you receive a tax break on anything you contribute to a 401(k). Ask if you work for an employer and don't know if you have a 401(k). If you already know you have one, ask your employer to connect you to the benefits administrator to find out how much you have saved or get a statement online if you have access.
Step 3: Estimate retirement expenses. How much you get to spend in retirement doesn't derive only from your savings. You probably see why we started with Social Security benefits first, but to drive the point home—if social security covers 50% of your retirement spending, you have a lot less to save than if you had no social security benefits. We want you to save as much as you can, but we also want reality to set in so that you can approach retirement less anxiously. You can thrive in retirement on far less than what many assume they'll need. Savings goals need to be realistic and achievable to be helpful. If you're targeting a completely unrealistic goal, your anxiety surrounding that goal could lead to behaviors that harm your ability to reach the goal. We don't want that for you.
We believe this next step will help you tremendously with anxiety surrounding savings goals. It's all about estimating expenses.
So next, estimate your retirement expenses, and do it 3 different times. If that seems like a lot, it is, but don't you want to have the best retirement plan possible? I bet you do, so we want you to spend as much time on this as you would planning a wedding, vacation, or a Friday night out. It's arguably more important.
The 3 retirement expense estimates we want you to come up with are these:
Comfortably Surviving Plan—This plan is your basic needs for retirement, including comfortable living, standard travel allowances, health care, toiletries, utilities, and food.
Exquisitely Thriving Plan—This plan takes it up a notch to include things like giving, more robust travel expenses, and perhaps a higher cost of living experience.
Lavishly Living Plan—This plan pushes the limits, and you're living like a rockstar.
Create each of those plans without thinking about how much you'd have to save. We'll get to that next.
Step 4: Reverse engineer how much you'll need. Next, we will use a calculator from our friends at bankrate.com, which asks for these details below. This calculator alone isn't sufficient, so we're helping you figure out what to bake into each field using information from the first 3 steps.
Annual income required (today's dollars)
Subtract your projected annual social security benefits from your expense estimate using actual personal data about you directly from the Social Security Administration
For instance, if you've estimated you'll need $60,000 annually (or $5,000 per month), and you're going to receive $36,000 annually (or $3,000 per month) from social security, you need to enter $24,000 into this field (i.e., $60,000 - $36,000)
NOTE: Figure out what social security benefit to subtract from your estimated expenses using your Social Security Administration statement. Look for the "Personalized Monthly Retirement Benefit Estimates (Depending on the Age You Start)."
Number of years until retirement
Figure out when you want to retire, and calculate how many years that is away from now
If you're 40 and you want to retire at 67, that equals 27 years
Number of years required after retirement
Estimate how long you expect to live after your retirement date. This metric is deeply personal, and we encourage you to look at many factors, including your family's history, health, and average age expectancy data.
For instance, if you expect to live until 90 and retire at 67, that's 23 years.
Annual inflation
Use 3%
You can find more information here if you want to look at historical average figures for inflation.
Annual yield on balance (average)
Use 4%
This figure considers how much you expect to earn on your savings over time, and it's an estimate
Some engines estimate 7%, while others use lower figures
Using 4% will give you a savings amount based on a moderate rate of return
The number the calculator returns is how much you need to have saved. Subtract the amount you came up with in Step 2 to figure out how much more you need to save now.
Step 5: Save consistently. Once you have your target, you need to start saving. Look at your income, calculate the most aggressive saving plan you can, budget for it, and start stashing cash. For now, we're not addressing where you put your dollars but just save them. Future issues will get into various vehicles where you can put cash, but you've already got a lot of work ahead of you just to figure out how much to save.
Step 6: Earn more and save that, too. Find a way to earn beyond your standard, traditional employment if your lifestyle allows. It could be a side hustle like writing gigs. It could be rental income. It could be inheritances. It could be insurance payouts. Whatever ways you can find to earn additional money, keep in mind that you may be able to stash several months or even a year of your retirement savings away in one fail swoop.
Practical Application
Keep your health up early in life. Out of the dozens of articles, books, advice columns, and journals we scour each month about retirement, few focus heavily on health. We start here because we consider it at the top of the list of ways to make retirement savings and planning work for you. While we'd love to hear your story of retiring at 30 or 40 and riding out your years having a lovely time island hopping, we think you need to be open to those opportunities yet keep yourself grounded in reality. There is an excellent chance that most will work until their 60s to achieve a comfortable retirement, and that's okay, AS LONG AS you stay in decent enough health to work that long. If you let your health decline over things that you can control, you're shooting your own retirement planning goals in the foot. Moreover, the better health you maintain, the lower your chances of spending large sums of money on medical expenses in retirement. Make your health a top priority for your current and future life of enjoyment.
Pay incredibly close attention to this method if you're just starting retirement planning at 40+ years old. Suppose you're starting later in your working career. In that case, this method will help you to set more reasonable savings goals by taking your previously banked social security retirement benefits or 401(k) into account as you get started with your savings. For instance, if you are 50 and have been working since you were 20, your Social Security benefits and 401(k) contributions may already be so significant that you have a lot of built-up reserves for future payout. Suppose you were to calculate your savings requirement without your earned social security benefits. You might end up with a number out of reach at your current and foreseeable income. Your target may also be unnecessarily high for your retirement needs. But considering your banked social security or 401(k) benefits, the amount you have left to save to cover the gap between what you need at retirement and what you'll be earning from these vehicles you've already set in motion may be a lot more achievable. Also, if you don't have much saved, this method will help you develop more realistic retirement lifestyle expectations.
A word of caution about this method if you're early in your work career. We love this method so much because understanding your Social Security benefits' impact on the estimated 97% of elderly between 60-89 years old who will receive those benefits is critical for your savings plan. But suppose you're early in your career. In that case, as you age, the amount of Social Security benefits you'll likely be entitled to will increase, meaning this method may cause you initially to target much higher savings than you'll need. While some calculators try to adjust for that by estimating your future social security benefit earnings several years out, we don't want you to bank on that. Why? Job markets change. How much a person earns may change. Life events like disability, children, and deciding to return to school can impact your work options and choices. What does that mean for your savings if you follow this method? You will likely save more than you need if you start early in your career. That's because you won't have any projected social security benefits as you get started, which means you'll estimate a much higher amount to save from your income. As you age and contribute to social security, your amount to save will decrease as your anticipated benefits increase. We're okay with that! If you follow this method, you'll save more aggressively in the earlier years and perhaps have more freedom in the latter years as you realize the future benefits of social security. Keep in mind that this calculation is a fluid one that you should reevaluate at least every 3 years, and we recommend checking in once per year. As your social security benefits start to reflect an increase, you may be able to lower your savings targets. However, we recommend you continue saving at a higher rate if you can because that means you'll have set yourself up to save aggressively, and there can be nothing wrong with that. You'll just get to your goals faster or be able to target your higher stretch goal. We love that!
Give yourself a reasonable target. As you start estimating your expenses for retirement, we want you to start with basic but comfortable living expenses. So this wouldn't mean estimating expenses where you have to ration food like you're in a time of famine, but it also wouldn't mean including a $20,000 monthly travel allowance. Find the balance between excess and basic, standard living expenses so that your initial target is achievable enough that you don't run away from the target.
Also, give yourself stretch goals. As you dig into retirement savings, you may quickly achieve the initial target. That's why we believe in setting 3 tiers of goals. Strive for the second or third tiers if you easily reach the initial one. You may or may not achieve retirement by 30, but give yourself stretch goals just in case you achieve your goals faster. The quicker you save for your basic needs, the quicker you can decide if you want to take those savings even further to afford a more prosperous retirement. Put these choices in your decision-making court by planning for stretch goals rather than leaving them to chance.
Automate savings. Don't underestimate the power of automating your savings. When you automate a saving plan, you make it a non-negotiable thing you do every month. When you manually transfer your savings into a savings account, you leave it as negotiable—something that you may or may not do, depending on what's going on that month. Take the thinking out of it and make it an automatic transfer. If your employer offers direct deposit, check to see if they can separate your paychecks by depositing your savings directly into one account and the rest into your primary checking account for expenses.
Invest in your employer 401(k) with matching. Making contributions to your employer's 401(k) plan is as easy as filling out a form. Contributions are automatically withdrawn from your paycheck and invested in funds on your behalf. We love how automated this method of saving is, and we also absolutely adore the tax break and employer match. Maximize it if your employer offers a match. The matching component comes into play when an employer commits to matching what you contribute up to a certain threshold. For instance, an employer may agree to match everything you put in up to 3% of your annual pay (Example #1). Another example is an employer matching 50% of everything you put in up to 6% of your yearly salary (Example #2). Let's consider numbers for both of those options.
Example #1: Let's say you earn $50,000 per year. You plan to contribute 3% of that to a 401(k), and your employer will match 100%. That means you're putting in 3% of $50,000, or $1,500 per year (i.e., $50,000 * 0.03). Your employer matches 100% of what you put in, another $1,500 into your 401(k). That's a free $1,500. In this scenario, you've stashed a total of $3,000, with $1,500 free.
Example #2: On the other hand, let's assume that you're contributing 6% of $50,000 per year, and your employer matches 50% of what you put in. In this scenario, you're putting in $3,000 (i.e., $50,000 * 0.06), and your employer is matching 50% of that, so $1,500. In this scenario, you've stashed a total of $4,500, with $1,500 free.
If your employer doesn't offer a 401(k), consider looking for one that does. A 401(k) isn't the only method of saving toward retirement, but it is a fantastic retirement savings vehicle. If your employer doesn't offer such a plan, ask if they ever plan to. Of course, we don't recommend throwing away an excellent job over a single compensation element. But when you're entering the job market or looking for a new job, consider seeking employers offering such a retirement vehicle.
Don't increase expenses with increased earnings, at least not for a while. A great way to save for retirement is to bank your compensation increases beyond increases for inflation. Of course, you need to keep up with inflation, so if you get a raise that helps offset increasing inflation, you may need to spend that raise. But if you earn a bonus or get a significant raise, consider banking those extra dollars instead of increasing living expenses until you reach your savings goals.
Blend your strategy. Don't discount your ability to master a good side hustle. Depending on your level of earnings, you may or may not find a side hustle to be a worthy investment of your time. However, if reaching your savings goals would be a stretch given your current earnings, look for a quality side hustle. Depending on your skill sets, here are 34 ideas for a side hustle to get your creative juices flowing, but get creative and don't feel boxed in by these ideas.
Look for big windfalls and be open to risks within your tolerance threshold. Massive windfalls of cash often come with some element of risk. Even with a side hustle, you're risking spending time on something that may not pay off. Investing in the stock market or a small business could also pay off but carry risk. Spend time learning about investing in stocks and small businesses to determine your risk tolerance before engaging.
Authority
"The question isn't at what age I want to retire, it's at what income." - George Foreman
"As in all successful ventures, the foundation of a good retirement is planning." - Earl Nightingale
"Preparation for old age should begin not later than one's teens. A life which is empty of purpose until 65 will not suddenly become filled on retirement." -Arthur E. Morgan
"Smart financial planning -- such as budgeting, saving for emergencies, and preparing for retirement -- can help households enjoy better lives while weathering financial shocks." - Ben Bernanke
"If you're just starting out in the workforce, the very best thing you can do for yourself is to get started in your workplace retirement plan. Contribute enough to grab any matching dollars your employer is offering (aka the last free money on earth)." - Jean Chatzky
"Financial peace isn't the acquisition of stuff. It's learning to live on less than you make, so you can give money back and have money to invest. You can't win until you do this." - Dave Ramsey
"An investment in knowledge pays the best interest." - Benjamin Franklin
Our Vote
We advocate strongly for the retirement savings approach above. It considers several aspects of the retirement puzzle and forces you to consider activating elements of a retirement strategy that you may not currently have. For instance, if you don't have a 401(k), we advocate for you to seek employment that offers one. We support saving as aggressively as possible with whatever type of account you have if you're self-employed. More than just saving by pinching pennies on lattes, we also advocate for big windfalls:
Picking up $10,000 for a consulting project
Working on a Board of Directors that pays $5,000-25,000 per year or more if you have a marketable skillset
Engaging with a startup company that gives you access to stock early on
Engaging in a consulting project that uses a skill set that you use at work that will benefit a small business that may pay you some percentage of that small business's early revenue
Buying a rental property
These opportunities enhance the traditional concept of saving from limited earnings and allow you to potentially bring in larger chunks of cash that you can stash away. In these ways, we chipped away at our retirement goals bit by bit, month by month, year by year, much more quickly than simply relying only on a paycheck from an employer.
All of that to say, a quality paycheck from a good employer can still absolutely be a sufficiently attractive way to retire. Ensure you're negotiating for compensation packages that reflect your value and include creative compensation opportunities like 401(k)s, bonuses, etc.
Reversal
There are few circumstances under which this law should be reversed. Suppose you have the capacity to live within the means of only your social security benefits. In that case, you may be able to avoid certain aspects of saving for retirement that others may not. Know that living on social security benefits alone will mean that you will likely need to modify and reduce your expenses significantly. You may need to forgo certain entertainment expenses, move to a less expensive area, or seek to live abroad.
While these actions could negate your need to save as aggressively as we recommend, we do not recommend relying only on benefits from the Social Security Administration. While we do not believe that current living generations will see an end to this program in our lifetimes, we want you to prepare for all scenarios, including dwindling payments from reductions to this government program.
Also, suppose you are incredibly wealthy or have certain inheritance-related funds from former generations that are structured so they'll take care of you throughout your natural life. In that case, you may be less concerned about retirement.
Finally, if you are excessively poor, these savings goals and conversations may be challenging for you to read. Nevertheless, we recommend finding some way to start saving as much as possible.