Compounding interest really is an amazing phenomenon. Interest compounded on itself begins growing so quickly that even Albert Einstein called it the 8th wonder of the world. If you wish to accumulate great wealth for your retirement, it is best to start sooner rather than later. Here are the details on exactly how to do so.
By sparkline.motifinvesting.com. The original article* title was What % of Your Salary Should You Save For Retirement?
How much is necessary for someone to put aside (invest) on a monthly basis – and for how many years- to adequately prepare for retirement? This article discusses the major factors necessary to arrive at the right answers to those questions.
One of the major factors to determine how much to contribute each month is the number of years you have left to save.
- Someone who is 60 years old and is just starting to save for retirement would have to save an astronomical rate each month just to accumulate a meager amount of money by age of 65.
- Someone at the age of 23 who had started investing for retirement would need a much smaller monthly contribution percent. Starting at this age, a 5% contribution each month might be sufficient for a golden retirement for his/her late 60’s (obviously, the higher the savings rate, the better).
Had someone received a $10,000 inheritance in 1965, for example, and invested it in a portfolio that closely tracks the S&P 500 Index…that one time deposit would equal $470,000, assuming no fees or expenses based on the annualized growth rate of the S&P 500 over the past 50 years of 8%. That certainly would have turned out to be a wise decision, [there is no doubt, but that was over a 50 year time period and back then $10,000 was the equivalent of 2 years of gross earnings].
The Power of Compounding Interest
Why is it that an early investment is so much more beneficial than a late one? Some people inaccurately think that saving $10,000 a year for 5 years should equal the same as contributing $1,000 a year for 50 years. The difference is actually quite dramatic.
If you look at the math of compounding interest, an early contribution is often far more beneficial than a late one.
- 50 years’ worth of $1,000 contributions per year, with an average interest gain of 8% per year, would equate to approximately $620,000.
- Alternatively, only 5 years of $10,000 contributions per year, with an average interest gain of 8% per year, would only equate to approximately $63,000.
Compounding interest really is an amazing phenomenon. Interest compounded on itself begins growing so quickly that even Albert Einstein called it the 8th wonder of the world. If you wish to accumulate great wealth for your retirement, it is best to start sooner rather than later.
How much is necessary for someone to put aside (invest) on a monthly basis – and for how many years- to adequately prepare for retirement?
- Determine at what age you plan to retire.
- Calculate how many years that is from now. That number, whether it’s 10, 20, or even 40 years from now, greatly impacts the potential earnings by your retirement age. Due to the effects of compound interest, it’s incredibly important to know that number to figure out how much you should be contributing to your retirement fund each year. Deciding what percentage to contribute toward retirement is how much you want by the time you stop working. If you decide that you would like $2 million instead of $500,000, your contributions must obviously go up.
How does someone know how much they’ll need by the time they retire?
With the rising cost of healthcare, inflation, and other unforeseen costs, that “nest egg” number can be difficult to figure out. However, it’s still possible to estimate how much money you will want in retirement and then prepare an action plan accordingly to help reach your goal.
- Plan on needing at least the same amount of income in retirement that you are receiving today to cover all of your future expenses because, while studies have shown the average costs of a retiree can approach approximately 75% of what they were used to when they were working (known as the replacement rate), inflation and the rising costs of healthcare could hinder this replacement rate and will likely meet or surpass your income needs of today.
- Multiply your yearly income by the number of years you expect to live during retirement. To provide some perspective on this, a 65 year old man has approximately a 20% chance of living to age 90, and a 65 year old woman has roughly a 33% chance of living to age 90. While you may not be able to define the specific age with certainty, you may be more comfortable projecting for a retirement fund that could last at least 25 years. As an example, someone who plans on retiring at age 65 and living to age 90 with expenses of $50,000/year could aim for a retirement fund of $1.25 million (25 years of retirement x $50,000/year = $1.25 million).
- After determining your desired retirement fund total, backtrack to discover how much money you should be contributing each year. Simply open up a retirement calculator and enter in
- your current savings,
- the interest percent you expect to earn,
- the amount you would like to contribute each month,
- the number of years you plan to contribute,
- the number of years you have until retirement and
- then take a look at the result and
- if the value is far below your anticipated needs in retirement
- then evaluate your needs again and
- increasing the monthly contribution in the calculator until it reaches your desired total.
- Take a look at the monthly amount that you ended up with in the calculator and multiply this amount by 12 to get your yearly contribution, and then divide it by your total yearly salary. This is the amount that you should be contributing out of every paycheck.
If you start funding your retirement at a young age, this percent might be as little as 5%. If you are older and need to play catch-up on your retirement fund, then your percent might be 25% or more. Whatever the case may be, it’s better knowing now versus later what it could take to hit your goals.
It is entirely possible that your desired contribution percent is far higher than you can realistically afford so if this is the case you should:
- consider finding ways now to reduce expenses
- and increase your savings and earnings,
- or adjust your retirement plans in a way that projects a more realistic lifestyle based on your life expectancy.
Delaying action and postponing retirement planning could lead to financial stress and difficulties later in life that could have otherwise been avoided. Planning and preparation will help you live a more comfortable retirement.
[The above article is presented by Lorimer Wilson, editor of www.munKNEE.com and www.FinancialArticleSummariesToday.com and the FREE Market Intelligence Report newsletter (sample here – register here) and may have been edited ([ ]), abridged (…) and/or reformatted (some sub-titles and bold/italics emphases) for the sake of clarity and brevity to ensure a fast and easy read. The author’s views and conclusions are unaltered and no personal comments have been included to maintain the integrity of the original article. This paragraph must be included in any article re-posting to avoid copyright infringement.]
Source: *http://sparkline.motifinvesting.com/salary-save-retirement/8151 (© 2014 Motif Investing, Inc. All rights reserved. Every investor is unique when it comes to their retirement goals, time horizons, risk tolerance, and investing interests. Discover your Investing DNA today and get tailored portfolio ideas based on your individual preferences.)
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