Save for retirement. Period.
There are very few adults in the United States that are of working age that aren’t affected in a positive way by saving for retirement. For virtually all of those people, saving for retirement – or saving more for retirement – is a strong positive move.
If there was one financial move that I got right before my personal finance meltdown in 2006, it was that I saved for retirement from the day I started working. Almost every mentor I had in my life encouraged me to sign up for this the second I started work and, for once, I actually listened to their money wisdom. (If only I had listened to other elements of their advice, such as “pay off your student loans quickly” and “don’t elevate your lifestyle now that you’re making more money” and “spend less than you earn.”)
Let’s start off with the most obvious question.
What About Debt Repayment?
This is the first question that a lot of people are going to ask, and it’s a good one. The problem is that it’s not the best advice for everyone.
It turns out that only around 47% of American households have any credit card debt at all, and of those that do, many of them have a very small amount ($1,000 or less). It’s only a relatively small number of American households that are deeply underwater in high-interest debt.
Obviously, eliminating your high-interest debt (and not acquiring any more) should be the top financial move, but that move really applies only to a minority of American households. The averages that we hear, like the average credit card debt of indebted American households is about $15,000, are skewed by a fairly small handful of households with large amounts of debt. The truth is that the majority of American households have no credit card debt and, of the ones that do, the majority of those have a relatively small amount (less than $4,000).
If you have significant high interest debt, getting rid of that should be your highest priority. However, that advice applies only to a minority of Americans.
Why Retirement Savings?
Every single American under the age of seventy that isn’t drowning in credit card debt will benefit from saving for retirement. Period. There are a bunch of reasons for this.
First of all, Social Security probably isn’t going to be enough. Take a look at your most recent Social Security benefits letter that you received in the mail. Could you survive on that level of income? Could you live an enjoyable life at that level? If the answer is “no,” you need to save for retirement. Social Security benefits aren’t going to go up. You aren’t going to magically have a mountain of money fall on your lap between now and retirement. You need to do it yourself, period.
So, what exactly is “retirement savings”? “retirement” savings just means normal savings that has very nice tax benefits. There are essentially two different ways to score those benefits, depending on which retirement account you use. (Remember, retirement accounts – like a 401(k) or a Roth IRA – is essentially a special type of savings account that gives you some options as to exactly how to save and helps you out with your taxes.)
First, if you contribute to a 401(k) or 403(b) – which is likely offered through your workplace, you’re going to reduce your income taxes for this year. What this means is that less taxes will be taken out of your paycheck than before. There’s not an exact formula for this, of course, because it depends on a lot of factors like your income level, your number of dependents, and so on, but your taxes will go down if you contribute to a 401(k) or 403(b). For example, if you put away $20 into your 401(k) each paycheck, your taxes from each check might drop by $6, which means your paycheck would only drop by $14. (You do have to pay taxes when you finally start making withdrawals, but you’ll likely be earning less money then, so you’ll pay less taxes at that point, too!)
On the other hand, if you contribute a Roth IRA – which you’ll have to set up on your own, you will pay no taxes on your withdrawals from that Roth IRA if you do it after age 59 1/2. None. If you’re 25 and put $1,000 in it and it grows to $5,000 by age 60, you can pull that $5,000 out and pay no taxes at all on it.
The government will basically pay you (in the form of lower taxes) to save for retirement.
Furthermore, if your employer is kind enough to offer matching, it’s free money! Every dollar that they offer in “matching” money is just free money for you, period.
Let’s say that your employer matches 100% of your retirement savings. Remember that example where I suggested putting $20 per paycheck into your 401(k)? That $20 immediately turns into $40. In other words, you’re putting $40 per paycheck into your retirement savings and it’s only dropping your paycheck by $14. Your $14 in take-home pay turns into $40 in your 401(k)! That’s amazing!
If someone said “if you give me $14, I’ll give you $40,” you’d do it over and over again, right? That’s exactly what matching funds are like. They are a giant no-brainer gift to you.
At the same time, the “savings” part of the equation means that you’re putting money away for your future. No matter how your future turns out, having that money set aside is going to help you.
Let’s say you reach age 62 and you can no longer find a high-paying job. That money you socked away for retirement, along with your Social Security benefits, is going to enable you to keep having a pretty good life.
What if you have a great job at that point? Your retirement savings allows you to keep bringing home the bacon while you want to and gives you the freedom to walk away whenever you want and follow whatever path you’d like.
What if you dream of starting a second career, like writing a novel? Your retirement savings can easily finance that.
No matter whether your life is going great in your sixties or if things aren’t going as well as you’d hoped, that retirement savings money will make things better. It can turn a difficult situation into a pleasant one. It can turn a good situation into a great one. It will simply make your life better.
What About Other Financial Goals?
Different people might have other financial goals in mind. Let’s look at them.
What about saving for my children’s college education? It’s almost always preferable to save a healthy amount for retirement before saving anything for college. You should be saving enough to make your retirement secure before saving for college.
Why? First of all, there’s no guarantee that your child will choose to go to college or that the expenses will be significant. Second, money saved for college takes away from your personal retirement savings, which increases the likelihood of you becoming an economic burden on your kids later in life. Third, you can usually tap your retirement savings to pay for that education should you choose to do so. Finally, there is some value in having your child figure out how exactly to pay for college on their own, as this creates the idea that college has real value.
What about saving for a house down payment? As this U.S. News and World Report article describes, most financial advisors recommend saving for retirement before a down payment. In general, the suggestion seems to be that you should be saving 10% of your income for retirement before saving anything for other goals (except for high-interest debt repayment).
What about an emergency fund? Everyone should have a small emergency fund – say, $1,000 in savings – before pursuing other financial goals. If you don’t have that, save for that first. After that, you can use your own judgment, but I would still prioritize retirement higher than a larger emergency fund.
What about having fun? Having fun doesn’t cost money. Sure, there are some avenues of personal enjoyment that have a financial cost, but many do not. If you’re skipping out on retirement savings because you refuse to sometimes choose free things to do with your time, financial advice probably won’t help you with your situation.
This is a simple one. If you are an adult American under the age of 70 with a job and without a mountain of high-interest debt, there’s basically no reason why you shouldn’t be saving for retirement. This is something that you need to be doing.
Not only that, the government has made it pretty easy for you. The vast majority of Americans can open a Roth IRA. Many, many employers offer a 401(k) or 403(b). Honestly, signing up for either one is fine. It matters more that you’re saving 10% of your income than anything else.
Don’t know which investment choice to make? Just look for a Target Retirement investment that matches the approximate year when you turn 65. So, if you’re 40, look for a Target Retirement 2040 investment. Put all of your money in there.
It’s essential. It’s pretty easy. Just do it.