How To Save for Retirement on a Small Income

If there’s one personal finance tactic that almost everyone agrees on, it’s the value of saving for retirement, or at least saving for your second act. There will come a point where you will no longer want to or will no longer be able to do the work that you’re currently doing and switching to something else will mean a significant drop in income. When that point comes, you will be glad to have every drop of savings. Life without retirement savings can be incredibly challenging.

What about Social Security? It helps, but Social Security alone is a pretty threadbare retirement existence.

While retirement savings sound great on paper, actually putting it into practice can be difficult, especially if you are earning a small income. The median American household income charts at below $70,000 per year, which means that half of American households bring in less than $70,000 per year.

In that situation, finances can be a real challenge. Contributing to things like retirement can be hard to justify when you’re worried about keeping the rent paid or the ominous noise coming from your car or making sure everyone has plenty of food to eat. How do households earning a relatively low income save for retirement?

It’s important to note that if your income is relatively low, you don’t need millions in retirement savings to replace your income. Don’t get caught up in people talking about needing millions to retire. You don’t need millions to retire.

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    Start NOW. Do not wait.

    In terms of retirement savings, you’re better off saving even a tiny, tiny amount now than waiting until later to do so. Save as much as you can as early as you can, even if that amount you can save now is only a few bucks a week.

    Why is this so important? It’s because of the power of compound interest.

    Let’s say you’re going to retire at age 70, and that between then and now, your retirement investments will return 8% per year. Let’s say you can only afford to put away $500 per year – literally $10 a week, with a two-week break.

    • If you start doing that at age 40, you’ll have $50,000 saved for retirement.
    • If you start doing that at age 30, you’ll have $160,000 saved for retirement.
    • If you start doing that at age 20, you’ll have $370,000 saved for retirement.

    Why is there such a huge difference? It’s compound interest. If you invest your money and just let it sit there and grow, it will grow faster and faster the longer it sits. Thus, the sooner you start saving, the more time you give it. If you choose to wait 10 years, you lose a lot of growth.

    The point is simple: Take action now, even if you can only take small steps.

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    Invest today for more retirement savings tomorrow.

    Prioritize getting your daily finances straight

    The first, most important actions you can take don’t actually involve retirement savings at all. They involve getting your day-to-day finances straightened up. There are likely financial obstacles already in your way that make it difficult to effectively save for retirement, so take care of those as quickly as you can.

    First, pay off your high interest debt. Any debt you have with a double-digit interest rate needs to go. Credit cards. Payday loans. Get rid of them as fast as you can.

    Second, build a cash emergency fund. Break free of relying on credit cards or payday loans for emergencies. Start socking away some cash in a savings account somewhere — and if you don’t have one or can’t get one, start by saving it at home for now. Eventually, you’ll want to get a savings account at a bank, which you should be able to do once you have some cash built up.

    How can you afford to do these things? Live as cheaply as you can possibly stand it. It’s fine to relax and treat yourself, but explore ways to do it that don’t involve money leaving your pockets. Splurge with long walks without your cellphone. Invite a friend to do something free. Get lost in a book from the library. Don’t splurge by buying stuff or paying for experiences. If you can’t think of fun, free things to do, here’s a giant list of ideas to start with, and it’s highly recommended to do them with friends.

    If you’re really struggling financially, there are tons of programs out there that exist solely to help people in your situation get back on their feet. Stop by and discover what might be out there that can help you.

    If you get these things under control, you’ll have less stress in your life, and you’ll also find it much easier to come up with a few bucks to save for retirement.

    Start small and automatic

    Once you have your daily finances stabilized, start your savings off slowly. You don’t need to contribute thousands a month to retirement. In fact, that will probably destabilize your finances and put you in a worse position.

    Instead, start by contributing what feels like a completely manageable amount. Go low, not high. If you feel like you can manage $10 a week, save $10 a week. If you can manage more, do it, but don’t push it. You are better off saving a small amount and keeping your day-to-day finances stable than trying to save too much and ending up in a mess.

    Whatever you decide to save, make it automatic. If it’s through a workplace plan, have it automatically deducted from your paycheck. If it’s your own plan (see below), have it pulled automatically from your checking account each week. You don’t want to have to think about doing it, or else you’ll find ways to talk yourself out of it. Start small, start automatic.

    Increase your savings when your income increases

    If you get a raise, use some of it to bump up your retirement contributions. For example, if you’re earning $1 an hour more than you once did while working 35 hours a week, bump up your weekly contributions by $5 or $10. You’re still bringing home more than you were before, but you’re saving more, too.

    As you earn more, you’ll naturally inflate your lifestyle a little, and that means you’ll want to save more to be able to maintain a better lifestyle in retirement. So, whenever you get a raise, put aside some of that raise for the future. Just change your automatic contribution whenever your paycheck goes up.

    Take advantage of the Saver’s Credit

    There’s actually a very nice but little known tax benefit for lower income earners who contribute to retirement savings. It’s called the Saver’s Credit and it will really help come tax time.

    Provided that you’re over 18, not a full-time student, and not claimed as a dependent on someone else’s taxes, you can earn a credit for up to $2,000 of retirement plan contributions, both through workplace plans or your individual plan. That credit is worth 50%, 20%, or 10% of your contributions, depending on your income level.

    For example, if you’re a married couple that earned $38,000 last year and managed to save $2,000 in a retirement account, you could claim the Saver’s Credit and get 50% of that amount back as a tax credit. That would mean your tax bill would go down by $1,000. That’s a great deal!

    Use your workplace account if you can

    So, how do you save? If your workplace offers a retirement plan that you can contribute to, such as a 401(k) or a 403(b) plan, use that plan. Your retirement plan contributions will come straight out of your paycheck, making it as easy as can be to sign up and keep it going. If you ever switch jobs, roll your old plan into your new one — just ask for help in doing so. A normal 401(k) or 403(b) allows you to defer taxes on that money until you withdraw it from the account in retirement.

    Some workplaces offer a Roth 401(k) or 403(b) option. As a low income earner, you’re in a very low tax bracket, so the tax benefits of a Roth account are particularly beneficial. In a nutshell, a Roth account means you pay the taxes NOW at your current tax rate rather than later at whatever rate you’ll have in retirement (Roth withdrawals are entirely tax-free in retirement). The lower your income, the more likely it is that you’re paying very low or no taxes right now. Our retirement guide will fill you in on all the details if you want to know more.

    Otherwise, start a Roth IRA

    If your workplace doesn’t have a 401(k) or 403(b), you can still save for retirement with tax advantages by opening a Roth IRA. This is an individual retirement account where you can pull money from your checking account. The value will grow within that account and when you reach retirement age, you can start withdrawing that money tax free, even the gains.

    You can set up a Roth IRA on your own with most investment houses, including well-regarded ones like Vanguard, Fidelity and Charles Schwab. Then, set up an automatic small contribution from your checking account each week or each month. It’s easy!

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    Trent Hamm

    Founder & Columnist

    Trent Hamm founded The Simple Dollar in 2006 and still writes a daily column on personal finance. He’s the author of three books published by Simon & Schuster and Financial Times Press, has contributed to Business Insider, US News & World Report, Yahoo Finance, and Lifehacker, and his financial advice has been featured in The New York Times, TIME, Forbes, The Guardian, and elsewhere.