We’ve all heard the expression “Give a man a fish and feed him for a day. Teach a man to fish and feed him for life.” When it comes to our kids and their finances, it’s sometimes tempting to give rather than teach, because we want to help them out and we want them to be happy. We could do them a great service, though, if we took a little time to pass on the lessons we’ve learned (sometimes painfully) about how to save and handle money.
In that spirit, I’ve included an article in today’s post that is focused on helping people in their 20s and early 30s plan for retirement. It is the first installment in a three part series that I am doing for the Omaha World Herald on retirement planning for different life stages.
As you’ll see below, starting early makes a HUGE difference. If you know someone who could benefit from that advice, I’d really appreciate it if you forwarded them the article. You can also share it to twitter or facebook using the buttons below.
Thanks in advance! I’ve heard from several of you this week who needed help with one issue or another. Don’t ever hesitate to touch base if I can lend a hand.
Note: If any of the charts or other information don’t display correctly in the email version of this post, just click the post title to view it on the web.
Want a nest egg in 40 years or so? Start early. In fact, start now.
Steven Covey once said “Begin with the end in mind.” For people in their 20s, that is about the best retirement advice you will ever get. Why? Imagine your life 40 years from now. If the past is any guide, you will just be getting ready to transition out of work and into retirement.
Assuming all goes well, Future You will have a nice comfortable nest egg set aside and will be on the cusp of an exciting new phase in life. There’s just one thing. In order for Future You to have a shot at that comfortable retirement, Current You has some work to do. Thankfully, you have a lot going for you. What are the key ingredients to getting a healthy start?
Early in life, your biggest asset is time. Those extra years can make a huge difference when it comes to your investments. The chart below shows a hypothetical example of the benefits of starting early. It compares five people saving for their eventual retirement at age 65. They save identical amounts each month ($500) and earn identical rates of return (8 percent per year, compounded monthly) on their investments. The only difference is when they start. Molly starts at 20. It’s a stretch, but she makes it work. Kelly, on the other hand, spends his extra income on a steady diet of video games and Mojitos and doesn’t get around to saving until he hits 30.
How much of a difference do those 10 years make? About $1.5 million. Said another way, Molly saved $60,000 more than Kelly ($6,000 per year for 10 years), on the front end, but that extra money resulted in an extra $1.5 million on the back end. The crazy thing? She could have stopped saving at 30 and never added another dime to her account and she still would have ended up with more than Kelly. Behold, the power of compound interest.
The longer you wait, the more drastic the difference and the more you need to save to catch up. The second part of the chart below shows how much our fictional characters would need to save each month in order to end up with the same amount as Molly. Waiting until 50 to start means that Pat would need to save more than $7,500 each month to catch up. Niel would need to put away the equivalent of a new car each month. As you can see, starting early allows time and compound interest to do most of the heavy lifting.
Make it automatic
Saving for retirement takes discipline. That is especially true if you are in your 20s and won’t see the payoff for decades to come. It’s like making a car payment each month for a car that you won’t be able to drive until 2057.
Rather than relying on willpower, make your saving automatic. Have your employer take money from your paycheck each month to add to your 401(k). Set up a Roth IRA that systematically pulls money from your checking account. You can start with as little as $25 per month. After awhile you will get used to living without the money and you won’t even think about it. I believe it was Newton’s Third Law that said “For every dollar earned, there is an equal and opposite way to spend it.” Or something like that. Make it easy on yourself. Make your saving automatic.
One of the most common questions that people have when it comes to setting aside money for retirement is “How much should I be saving?” The answer, of course, depends on your specific situation. Recently, a professor by the name of Wade Pfau has done some interesting research on this topic. He calls it the “safe savings rate.”
At the risk of drastically simplifying his research, this is the question he was trying to answer: How much does a person need to save in order to safely fund retirement even after the ups and downs of the market are taken into account?
His conclusion for someone in their 20s (a.k.a. someone who can save for 40 years)? Using historical market data and assuming an allocation of 60 percent stocks and 40 percent bonds, he found that someone saving for 40 years and then living for 30 years in retirement had a 100 percent chance of replacing half of their pre-retirement income if they saved 8.77 percent per year. Increasing the savings rate to 12.27 percent, resulted in a 70 percent replacement rate.
Of course past performance is no guarantee of the future, but his research is helpful in that it gives you a specific number to shoot for. Saving 10-15 percent of your income might seem like a stretch, but you don’t need to get there overnight. Start with something small, like 1 percent per year, with the goal of increasing it each time you get a raise. Combine that with the employer match on your plan (most employers will match a certain percentage of what you put in) and you’ll be at 10% before you know it.
Asset allocation (the breakdown between stocks, bonds and other asset classes) is a critical element to investment success. In fact, research shows that it is responsible for as much as 90 percent of return. The remaining 10 percent is determined by the specific investments you buy and when you buy them.
Work with a trusted adviser or the representative assigned to your plan at work to make sure your allocation is appropriate for your situation. Then review that allocation regularly and make changes as necessary.
Don’t raid the piggy bank
The average person changes jobs 5-10 times over a lifetime. Each time you change, it’s tempting to take the money from your 401(k) rather than rolling it over to an IRA or to your new employer’s plan. This is especially true if you have things like moving expenses or if you lost your job involuntarily and need some resources to make ends meet. Do everything you can to avoid taking these premature distributions. Not only will you pay taxes and a penalty (assuming you’re younger than 59 ½), but it also means that the advantages you gained from starting early go out the window.
The biggest objection to starting early is that it’s not easy to save at the front-end of your career when your income is limited and you have so many expenses like a new work wardrobe or furnishing your house or apartment. I’ll let you in on a little secret. It doesn’t get any easier. There will always be wants and needs competing for your limited resources. The key is deciding to start, no matter the amount, and then making saving a lifelong habit.
Remember the Apollo program? Before going to the moon, one of the key challenges NASA had to overcome was figuring out how to get a rocket that weighed 6.7 million pounds and was 58 feet taller than the Statue of Liberty off the launch pad and into space.
The solution rested in a concept called Escape Velocity. It is the speed needed to break free of a gravitational field. To reach space, the rocket needed to go fast enough and far enough to outrun (or “escape”) the pull of gravity.
You can probably see where I’m going with this. As you transition into retirement, your career and other aspects of your pre-retirement life will be exerting their own gravitational pull. To overcome that pull and enter a new exciting phase, you need to reach what I call Retirement Escape Velocity (or REV for short).
Failure to reach REV means uncertainty, frustration and disappointment. Reaching REV means you finish your pre-retirement years well and launch into a new phase of meaningful pursuits. What are some ways to build up enough speed and momentum to reach your retirement escape velocity?
Have a goal. On May 25, 1961 President Kennedy set the goal of “landing a man on the moon and returning him safely to the earth” before the decade was out. That goal was a primary driver for everyone working on the project. Similarly, having specific goals can be an important driver of your retirement dreams.
Have a team and work together. At its peak, there were 400,000 people and 20,000 companies and universities working on the Apollo Program. When aiming for a big goal, it helps to have a good team. That means you should be on the same page with your spouse and working together toward a common end. It also means that you should have trusted advisers like your attorney, accountant and financial planner.
Overcome fears. Think of every major thing you’ve done in life like getting married, having kids, starting that new business, or setting a big goal. You likely felt some combination of fear, doubt, anticipation, joy and trepidation. But looking back on your life, those are probably the things that you’re most proud of; the things that brought you the most meaning and purpose. The same will be true of retirement if you reach for something great and overcome your fears.
Commit resources. Landing men on the moon required the largest investment by any nation ever made during peacetime. Money isn’t the most important element of a successful retirement, but it’s important. Resources can be like rocket fuel. Make sure you’re setting aside what you need.
Go in stages. Each stage of a Saturn V rocket was designed to burn for several minutes and propel the craft through a certain leg of the journey. Depending on your personality and circumstances, it might be wise to consider retiring in stages rather than all at once. This will allow you to adjust to the new reality and focus on the transition without feeling rushed or unprepared.
Examine your unique situation. Different planets have different pull. You need to be going 11.2 km/s to escape the earth’s gravity. To escape the sun’s gravity, however, you need to be going 617.5 km/s. Each of us have different careers and circumstances leading up to retirement. Some have jobs that they can walk away from at a moments notice. Others may be the owner of the business or a key person in the management chain and significant preparations need to be made in order to move on. Consider which you are and plan accordingly.
Spend time researching and testing. President Kennedy outlined the lunar goal in 1961, but the first manned flight did not happen until October of 1968. The period between was spent researching and testing. As you move towards retirement, test out your budget to see if it’s realistic. Spend time doing the hobbies and activities you have planned to make sure they fit you. Visit the area where you plan to retire so you can begin to meet people and put down roots. Doing these things will help you refine your plans and increase the odds that retirement will feel like a natural transition rather than a jarring change.
Have something that will replace the fulfillment you get from your job. Many of us derive a great deal of satisfaction from working. New retirees usually don’t miss their job per se, they miss the satisfaction and accomplishment that they felt from working. Make sure that you have meaningful pursuits planned for retirement that can fill any void created by quitting your job.
Have a countdown checklist. Each launch in the Apollo Program was preceded by a detailed countdown checklist to make sure that every step in the sequence of events was followed perfectly. Use the Retirement Countdown Checklist at www.IntentionalRetirement.com as a reminder of what needs to be done and when you need to do it.
Simplify. When an accident threatened Apollo 13, Gene Kranz was said to have focused his team by saying “Let’s work the problem people.” As you enter retirement, you need to simplify and work the “problem.” You should make both a “To Do” list and a “Stop Doing” list. The latter will help you transition out of certain commitments and responsibilities so you can reach REV and focus on your new life.
Avoid an explosion on the launch pad. There was enough fuel in a Saturn V rocket to cause a low grade nuclear explosion if it blew up on the launch pad. I promise you, no one wanted that to happen, least of all the Astronauts inside. Unfortunately, I have seen retirement for some people abrubtly ended by an explosion on the launch pad. Most often this is the result of a key mistake like having too much of one’s nest egg in a particular stock (employees of Enron for example). In order to reach REV, you need to get off the launch pad. Don’t do anything that would jeopardize that.
As you can see, the less prepared you are—financially, emotionally, strategically—the more likely it will be that your job and pre-retirement life will trap you in a perpetual orbit. To break free, follow the steps outlined above and your actions will propel you to an exciting new chapter in life.
Thanks for reading. Touch base if I can ever help.
Much of your retirement planning will revolve around your retirement budget. It will help determine things like:
How much you need to save
When you can afford to retire
What types of things you can afford to do
What your income sources will be during retirement
How sustainable your distribution strategy is
With that in mind, I’ve put together a Retirement Budget Worksheet for you (see link below or visit www.intentionalretirement.com). Use it to begin mapping out your income and expenses during retirement. Feel free to forward it on to friends or family as well.
Why is retirement exciting and fulfilling for some people and lonely and disappointing for others? Below are 8 habits of successful retirees. Use them to make the most out of your retirement.
1. Live with a sense of urgency. Successful retirees don’t treat life as if it goes on forever. They recognize that their time is limited and they greet each new day with a sense of urgency.
“You must realize that one day you will die. Until then, you are worthless.” ~Chuck Palahniuk
2. Take risks. We spend a lot of life trying to minimize risks. We wear seatbelts, buy insurance and otherwise try to build a moat around our lives. Successful people recognize that a worthwhile life can’t be lived solely within the castle walls. Don’t be afraid to take calculated risks in pursuit of meaningful goals.
“You can measure opportunity with the same yardstick that measures the risk involved. They go together.” ~Earl Nightingale
3. Be healthy. In 1900 the three leading causes of death were influenza, diarrhea, and tuberculosis. Today they are heart disease, cancer and stroke. All three are heavily dependent on diet, exercise, smoking, drinking, and stress.
“Before you’re 35 it’s your genes that take you, but from 35 on it’s your choices.” ~Dr. Michael Roizen
4. Retire TO something, not FROM something. Retiring to escape a job is a recipe for misery and discontent. Retiring to pursue things that you are passionate about is a recipe for meaning and fulfillment.
“Don’t be pushed by your problems. Be led by your dreams.” ~Ralph Waldo Emerson
5. Retire based on your bank account, not your birthday. If someone asks you when you want to retire, your answer should be a dollar amount, not a year.
“The question isn’t at what age I want to retire, it’s at what income.” ~George Foreman
6. Choose yes over no, active over passive, and adventure over inertia. We all have a deep-seeded need to live a life of meaning and fulfillment. More often than not, we achieve that life by saying yes to opportunities and actively seeking out adventure.
“20 years from now you will be more disappointed by the things you didn’t do than by the ones you did. So throw off the bowlines. Sail away from the safe harbor. Catch the trade winds in your sails. Explore. Dream. Discover.” ~ Mark Twain
7. Do important work. All of us are designed to do something meaningful and productive. Retirement doesn’t somehow remove that need, it just means that we no longer have to base our choice on how much something pays.
“Deprived of meaningful work, men and women lose their reason for existence.” ~Fyodor Dostoevsky
8. Foster meaningful relationships. Social interaction is a critical element to human happiness. Successful retirees are constantly looking for ways to experience community and connect with friends and family.
“If a man does not make new acquaintances as he advances through life, he will soon find himself alone. A man should keep his friendships in constant repair.” ~Samuel Johnson
-Photo by mikebaird. Used under creative commons license.
Does your retirement plan include your parents? It probably should. Chances are good that they are counting on you to handle their affairs if they die or become incapacitated. How confident are you that you have everything you need to handle that role effectively? Do you know their wishes regarding life-prolonging care? Have they given you power of attorney? Will they have adequate resources to pay for the cost of their care?
Many parents are reluctant to discuss these things with their children because they think they are private matters, they fear losing control, or they want to appear to have it all together. Be sensitive to that, but don’t let it keep you from starting the conversation because the stakes are high.
A recent study by MetLife found that there are nearly 10 million adults over age 50 caring for their aging parents. The study estimates the potential costs for caregivers (in terms of lost wages, pension and Social Security benefits) to be around $3 trillion or an average of $300,000 per caregiver. Many risk putting a significant dent in their own retirement plans if they haven’t properly planned for how to help mom and dad.
The sooner you begin talking and planning, the easier it will likely be on everyone involved. Helping is much more difficult after a crisis, so start talking while your parents are still healthy and active. Here are five steps to cover as you work through the process.
An easy way to begin the conversation is to talk to your parents about the planning you have done for yourself. Be transparent about areas like your finances and legal affairs and ask their opinion on your situation. Then ask them about their planning and what role you might play in helping them as they age.
Be sure to communicate that any involvement on your part would be gradual and based on their needs. You aren’t looking to take control of their affairs, but simply want to understand their situation so you can be an effective advocate for them if they ever need your help. Make clear that you are just the understudy and you won’t step in to help unless or until they need you.
Once everyone is talking, it’s time to review your parents’ current state of affairs. What are their current assets and liabilities? What accounts do they have at different banks or investment firms? Who are their key financial and legal advisers? Do they have a will and powers of attorney? Do those documents reflect their current wishes? Where do they keep important documents? How is their health? What doctors do they see and what medications do they take? Do they have long-term care insurance? By asking these and other questions, you will get a broad overview of their affairs and be in a better position to not only offer assistance, but also spot potential problems.
If the Review stage uncovered any holes in your parents’ planning, now is the time to fix them. Pay particular attention to five key areas: 1) Finances, 2) Insurance, 3) Legal documents, 4) Living arrangements and 5) Health. Work with your parents and their advisers to make sure that all bases are covered. Here is a simple checklist of key points to consider for each area:
Make a list of all accounts and where they are held
Get contact information for their advisers
Consolidate and simplify accounts where possible
Make sure the accounts are titled correctly
Offer to sit in on a meeting with their financial adviser to review investments, make sure the asset allocation is appropriate and make sure there are adequate resources to support your parents’ lifestyle
Review Social Security benefits
Make sure all beneficiary designations are up to date
Streamline bill paying
Make a list of all insurance policies (life, health, long-term care, etc.) and where they are located
Get contact information for their insurance advisers
Offer to sit in on a meeting with their insurance adviser to see if a long-term care insurance policy would be appropriate
Review homeowners, auto and umbrella liability insurance to make sure they are adequate, appropriate and up-to-date.
Review health insurance coverage and consider whether it would be appropriate to add a Medigap policy to pay for costs not covered by Medicare
Do they have a will or estate plan?
If so, does it reflect their current wishes (i.e. does it pass property to the correct people and have the correct people taking charge)?
Do they have an up-to-date durable power of attorney for finance?
Do they have an up-to-date durable power of attorney for health care?
Does their health care power of attorney contain a health care directive that spells out their wishes for life-prolonging care?
Is the current housing situation suitable?
Do any changes, updates or modifications need to be made to the house?
Have they made contingency plans for illness, disability or death of a spouse?
Is there money available to pay for those contingencies (e.g. savings or long-term care insurance)?
Make a list of their doctors as well as any medications they are taking
Help coordinate benefits between care providers and insurance companies
Once the initial planning is done, get it organized. People usually need important documents during painful or stressful times. A will is needed after someone dies. A medical power of attorney is needed after someone has become incapacitated. Having everything organized will not only minimize stress, but it will also help those in charge to make informed decisions during difficult circumstances.
Helping a parent is typically a gradual process. Once the initial planning is done, keep the lines of communication open. If they need help in a certain area or with a particular task, you will be there to lend a hand. As they need more help, you can gradually implement the planning that you did with them previously.
Becoming a parent to your parent is never easy, but you owe it to both them and yourself to get things in order. Proper planning will give peace of mind, help avoid family conflict and minimize the financial impact on everyone involved.
Thanks for reading. Touch base if I can ever help.