I have been reading a book called “Hey! What’s My Number” by Christopher Carosa. The book is about improving the odds that you will retire in comfort. It talks a lot about 401k plans and how to best take advantage of what they offer so participants can enjoy a comfortable retirement. I’m pretty sure I ordered the book from his website, www.ChrisCarosa.com.
On page 12 of the book he writes: Step #3: Emphasize the Three Critical Components to Retirement Success. He talks about a 2012 Wharton study that identified the four components to retirement success. Of the four, the investor controls three. 1. When to start saving. 2. How much to save. 3. When to retire. The fourth, investment returns has been the focus of retirement plans but the study calculated that the real-life difference between the optimal investment selection versus the average investment selection could be made up by working 4 more months! Isn’t that incredible? And just think about all of the time people spend worrying about which investment will give the greatest return. Or, should I invest in index funds or are active funds better? Do I look at the 5 star funds in Morningstar? Blah, Blah, Blah!! Let’s talk a little more about the things we can actually control.
When to Start Saving
You have probably heard the proverb that goes something like, the best time to plant a tree was 20 years ago, the second best time is now. Same thing goes when it comes to saving money. One of my best friends, former Lobo great George Scott has a saying, “if ifs and buts were candy and nuts, we would all have a Merry Christmas”. I see a lot of people who wish they had started saving when they were younger. Or, I am meeting with clients and they are behind on their saving for retirement and are beating themselves up because of it. You know what? You can’t do anything about the past so you might as well just give yourself a break.
Remember, the second best time. Right now! If you haven’t saved any money for retirement, start today. If you feel like you’re behind, increase the percentage that you are putting into your 401k plan. Whenever I am meeting with participants at retirement plan meetings we talk various concepts like, investing is like working out. Not many people can go from the couch to running a marathon. But you can walk around the block. Then maybe you walk a mile. Then you start to jog. Pretty soon you’re making progress and eventually, if you actually wanted to run 26.2 miles, you probably could.
Same thing with saving money. Start small. We always recommend that someone contribute so they are getting the maximum match from their employer. What if you can’t do that? Do something! A lot of 401k plans have an auto escalation feature where you can increase your contribution each year automatically. So for instance, you start with 2%. Next year, the plan will take 3% from your check. It will increase each year up to a percentage where you tell it to stop. I have a law firm here in town where the staff members always come to our retirement plan meetings and the lawyers are mostly too busy and don’t bother. Every year, I talk to the staff about raising their contribution by 1%. I always say, if the cat got fed and the cable still works, then raise it by 1%. Now, I’m pretty sure every one of the paralegal secretaries and the receptionist are putting a bigger percentage of their checks into the retirement plan than the attorneys. On that plan, most of the participants started saving 3% and now they are investing anywhere from 8% to 12% of their paychecks. They are well on their way to a comfortable retirement.
How Much to Save
There are all kinds of rules of thumb around the subject of how much to save. There’s the 4% rule. I have seen articles saying you need 25 times your monthly expenses in retirement savings by the time you are ready to retire. I think everybody is different and has different needs. However, if you don’t know where you’re going, you’re never going to get there.
I have the best retirement planning software. With our software, we can help people figure out what they as individuals need to do in order to retire in comfort. Basically, we help our clients to figure out what they want in the future. Then we add in what they already have like Social Security, their current investments and pensions they might receive. We subtract what you want from what you have and come up with what you need. Then we calculate how much it takes to fill the gap. It’s not rocket surgery, but there’s some pretty good math that goes into the calculations along with managing behaviors, fear, cutting out the noise, not listening to the dude who used to work at Merrill Lynch and realizing that Jim Cramer is an entertainer.
A lot of times the amount someone needs to save each month in order to meet their goals is more than they can handle. What do we do? Nothing??? Of course not! Don’t let perfection get in the way of progress. Plus, you can always find a little extra somewhere in the budget. Starbucks sells their coffee at the grocery store. Renegotiate the cable TV bill. Raise the deductible on the car insurance. Eat at home one or two extra meals a week. Start something then add the auto escalation feature and away you go!
When to Retire
It sounds really cool to retire when you’re 35 or 40. Just think, you save a whole bunch of money then you retire at 40, travel the world, sleep in, get to be the coach of the kids’ teams. You hang out in your pajamas and drink beer at 10:00 a.m. No Zoom meetings, no deadlines, no business travel. Basically you get to do whatever you feel like, whenever you want to do it.
This can be done. They even have a movement for it, of course! It’s called F.I.R.E. It stands for Financial Independence Retire Early. People who do this save 50% or more of their taxable income. They seem to be very careful with their spending. I have read quite a bit about this concept. The idea is to have your investment account grow to 25 times your annual expenses. This allows you to withdraw 4% of your portfolio per year to live on (remember the 4% rule?). You can do this at any age. Here’s a quick bit of future interest math just as an example.
Income: $100,000 Monthly expenses: $5000.00 X 12 = $60,000 X 25 = $1,500,000
Someone wanting to have $1,500,000 in 15 years would need to save $49,630 per year and have it earn 7% every year. You can probably see a little problem with my math. If you add up the monthly expenses and the amount this person needs to save, it is more than that person makes per year. So what are you supposed to do? Once again there are three options. Lower your living expenses, increase your income or delay when you retire.
Assuming you do not hate your job, delaying retirement has a lot of advantages. For most people, some of their biggest living expenses are paying for their house and their cars. If you can get those paid off before you retire, obviously it really lowers what you need every month.
Delaying Social Security is another huge advantage. Most people take Social Security at age 62. Sometimes that makes sense. If you take it early you will get a reduced benefit versus waiting until your Full Retirement Age. If you wait until age 70, you receive an 8% increase each year that you wait from your FRA until age 70. That means your Social Security check will be 25% higher at age 70 versus taking it at your Full retirement Age.
Another advantage is you allow your investments to grow more. Here’s another little bit of time value of money math. Let’s say you’re 67 and have $500,000 saved in your retirement accounts. If you use the 4% rule, you would be able to receive $20,000 per year of income. Using our example of someone making $100,000 per year, going from that to $20,000 per year is going to be tough. Now let’s assume this person waits 3 years to start taking income and continues to add $10,000 per year to their account. Instead of having $500,000 their retirement account would be over $600,000, assuming a 6% rate of return over those three years. Now their income assuming the 4% rule will be $24,000 per year. Still tough to live on, but don’t forget Social Security.
A person making $100,000 per year will receive approximately $2700.00 per month from Social Security at the FRA and about $3300.00 per month at age 70. At age 67, our person’s monthly income would be around $4300.00. By delaying their retirement, their monthly income is more like $5300.00 per month. That’s a 23% increase in their income just by delaying retirement for 3 years.
Control What You Can Control
The three things you can control when it comes to saving for retirement are when you start, how much you save and when you retire. You can’t control investment returns. So you might as well focus on the areas you can control. If you would like to talk about this, feel free to reach out to me. Here’s a link to my calendar to schedule a call or you can use the get in touch link at the top of my website: https://calendly.com/kbrowngfainvestments/phone-call-with-kevin
As always, thanks for reading. KB