Imagine a future where you can finally kick back, relax, and enjoy the fruits of your labor without worrying about finances. Retirement may seem like a distant dream, but taking the right steps today can help turn it into a reality. With longer life expectancies and an unpredictable economic landscape, saving for retirement is an essential part of securing your financial future. This comprehensive guide will provide you with valuable insights on retirement plans and strategies, whether you’re an eager Gen Zer entering the workforce or a seasoned professional playing catch-up.
While the entire process of saving for retirement might seem intimidating, it’s not nearly as hard as you think it is. The key to building a comfortable nest egg lies in utilizing the right investment strategies and starting early. The sooner you start, the more money you will have when you decide to leave the workforce and the easier it will be to finance your preferred lifestyle, whether that involves buying a different home or traveling the world.
“The great part about being young is that you have so much time,” says Barbara Ginty, a financial advisor in New York.
This is something that members of Gen Z, the youngest generation to enter the workforce, seem to have realized. Although they are often depicted in the media as unmotivated and irresponsible, they seem to be a lot smarter with money than some people may think.
Recent survey data from BlackRock shows that Gen Z is setting aside about 14% of their income for retirement, while their older counterparts — Millennials, Gen Xers, and baby boomers — set aside about 12%. What’s more, a 2022 study from the TransAmerica Center for Retirement Studies found that Gen Z workers between the ages of 18 and 25 have already set aside a median of $30,000, which is more than any of the older generations managed to save up when first started working.
Let’s take a closer look at how retirement plans work and how you can start saving money as early and efficiently as possible, no matter where you’re at in the process.
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Understanding 401(k) and IRA plans
There are two primary ways to save for retirement: through employer-sponsored plans or by managing your savings independently. Employer-sponsored plans, such as 401(k)s, allow employees to set aside a portion of each paycheck for investment purposes. Investment options typically include a mix of mutual funds, stocks, bonds, ETFs (exchange-traded funds), and REITs (real estate investment trusts).
Most employers offer 401(k) plans either due to state laws or as an attractive employee benefit. Some provide traditional 401(k) plans where taxes are deferred until retirement, while others offer Roth 401(k) plans in which contributions are taxed upfront. Some even offer both options. The best choice depends on your individual circumstances and future tax expectations.
Another option for saving for retirement is through the Individual Retirement Arrangement (IRA). IRAs function similarly to 401(k)s and come in two forms: traditional IRAs and Roth IRAs. The main difference is that you open an IRA through a bank or broker rather than your employer. However, the annual contribution limit for IRAs is lower than that of 401(k)s, with a maximum of $6,500 compared to $22,500 for a 401(k).
IRAs are an excellent choice for building additional retirement savings or if you don’t have access to a 401(k) plan. Some employers don’t offer 401(k)s, and part-time workers must meet specific requirements to be eligible. Freelancers and gig workers also need alternative retirement savings options, as discussed later in this article.
Maximizing your retirement savings
The longer you wait to start saving for retirement, the more challenging it becomes. If you begin saving at 35, you will need to set aside $670 per month to retire with $1 million at 65, which is a significant portion of the median monthly income in the United States. However, if you start saving at 25, you’ll only need to save $209 per month to obtain the same amount — a much more manageable commitment.
Compound interest is the main reason why earlier is better when it comes to saving for retirement. Compound interest is when your money earns interest, and then that interest also earns interest, making your money grow faster.
To highlight the power of compound interest, Barbara Ginty asks a simple but surprising question: Would you rather have $1 million right now or a penny doubled every day for one month? The more lucrative option is the penny doubled, which would net you nearly $11 million after a month. (Maybe it’s no surprise that Albert Einstein once called compound interest the “eighth wonder of the world.”)
It’s essential to remember that retirement plans are not merely savings accounts; they are long-term investment portfolios. You want your savings to compound interest to keep up with inflation, so investing your money is crucial. Also important is developing healthy risk management, which you can achieve by diversifying your assets by investing in stocks, bonds, ETFs, and REITs. Financial advisors often recommend adjusting the mix of investments in your portfolio to become more conservative as you approach retirement.
Saving for retirement as a freelancer or gig worker
For freelancers and gig workers without access to a 401(k), opening a traditional or Roth IRA is a viable option. Additionally, taking advantage of high-interest savings accounts can be beneficial. As of March 2023, the Federal Open Market Committee has been increasing interest rates in response to inflation resulting from Russia’s invasion of Ukraine. While high inflation is detrimental to the economy, higher interest rates present an opportunity to boost savings through regular savings accounts or Certificates of Deposit (CDs).
With CDs, you lock a specific amount of money into an account for a predetermined period at a fixed rate. During this time, you cannot access the funds, but you’ll continue to earn high interest even if rates decrease. Freelancers and gig workers can also build investment portfolios outside of their IRA.
Regardless of the method for saving for retirement, the central principle remains the same: the earlier you start, the easier, more secure, and less stressful your retirement will be. By understanding the different retirement plan options and investing wisely, you can ensure a comfortable and financially secure retirement.