A few weeks ago, I was reading Frugal Rules’ article – When Should You Start Saving for Retirement? Of course the answer is “as soon as possible.” It’s pretty obvious really. Another point John made was that retirement saving is a marathon, not a sprint. Saving a little every year is much better than trying to catch up at the end. I agree with that, but sprinting at the beginning is even better especially for people who want to retire early. Let’s crank some numbers.
Assumptions: 7% compound interest. I’m going to ignore inflation and tax on this one to keep it simple. I’ll put everything in a table at the end for easy comparison.
Marathon VS sprinting at the end
Sprinting at the end is good if you are already near retirement age. Even Uncle Sam knows that and let you save an extra $5,500 in your 401k plan after you’re 50. The extra retirement saving will give you a little boost. However, if you’re young, it’s much better to start saving for retirement ASAP. Waiting until you’re older to save for retirement will make it much more difficult to have a comfortable retirement.
Marathon – If you had saved $3,000/year since you were 20 years old, you’ll have $1,103,000 by the time you’re 67. That’s not bad, right?
Sprint at the end – Most people say they couldn’t save much when they were young, though. Many of us had put it off until we were a bit older. If you save $3,000/year from the time you’re 40 to 67, then you would only have about $241,000. That’s a huge difference from the marathon saver. Even if you save an extra $5,500 from 50 onward, you’d only have about $420,000.
As we can see, it’s much better to save consistently, starting from your 20s rather than putting it off until you’re older.
Sprint at the beginning
What if you sprint in the beginning instead? What if you can move that $5,500 extra saving from age 50 to 67 and put it right at the beginning? So from 20 to 37, you save $8,500/year then ratchet it back down to $3000/year. This is call front loading and it’s pretty amazing.
Sprint at the beginning – Save $8,500/year from 20 to 37, then $3,000/year until 67. By the time you retire, you’d have $2,562,000 saved up. That’s a huge increase from what we had previously.
Sprint at the beginning, then coast – Save $8,500/year from 20 to 37, then nothing after that. You will be in for a big surprise here. Even if you don’t save a dollar more from 37 onward, you would have $2,255,000 in the bank by the time you’re 67! Isn’t that mind blowing?
Time is on your side (if you’re young)
Time is your biggest friend when you’re young. Compound interest will give you a huge boost if you started saving for retirement early. Of course, it’s much harder to save $8,500/year when you are 20 than when you’re 40, but if you can do it, you’ll have much more options than the typical American household (who are in the midst of a retirement crisis.)
Actually, I think most young people just don’t realize how much compounding will help them. If they understand this, they might continue living a student lifestyle for a few more years and invest more of their salary early on.
Save as much as you can as early as you can
I started contributing to my 401(k) with my first paycheck and ramped up to the maximum contribution limit a few years after that. When I quit my engineering career, I didn’t have enough retirement saving to be fully retired, but I knew time was still on my side. As long as I don’t draw down my retirement saving, it should continue to grow over the next 27 years. I’m reasonably confident that we’ll have a very comfortable retirement when we reach 67.
Here’s my formula – don’t be afraid to come up with your own.
From 20 to 39 – Get a good job, then save and invest as much as I could.
From 40 to 67 – Work on something I like and enjoy the journey. Save a little bit whenever I can, but the crucial thing is to avoid withdrawing from the retirement accounts.
67 to 100 – Cut back on work gradually and enjoy a comfortable retirement.
Retirement saving isn’t a foot race. Front loading is the best way to get ahead and stay ahead. The money you save early on is worth much more than what you’ll save at the end due to compounding.
What’s your plan? Did you save for retirement when you were in your early 20’s? If you’re young, try to save as much as you can ASAP.
Photo credit: flickr Mitchelle Media