Save More to Have More

If you scan the Web sites and magazines that dispense advice about personal finance and retirement, you’re almost guaranteed to read about people who believe they can close shortfalls in their retirement savings by working a few extra years. For example, a 2009 survey found that more than one in four workers had changed their planned retirement ages; of these, 89% postponed retirement.¹

But what if you don’t want to postpone your retirement a few years or, worse yet, are unable to continue working because of poor health or career problems? Even if you wouldn’t mind staying on the job a few extra years, consider the diminishing effects of time: Retirement contributions you make during your last few years of working will have less time to pursue growth than the contributions you made long before retirement.

There’s another solution to a retirement savings shortfall that is so simple you might never have given it serious consideration: Set aside more of your current income. Even if you believe that you are currently saving as much as possible toward retirement, you might change your mind after you run the numbers.

Bob Needs More Bucks

A 55-year-old hypothetical investor, Bob, regularly contributes 8% of his salary toward his retirement goals. Bob wants to retire at age 62, but he also would like to have at least another $100,000 saved for retirement before he stops working in order to achieve his goals.

Bob is worried because if he continues to set aside 8% of his income (which is currently $80,000 with a 3% raise every year) and his retirement assets earn a 6% average annual return, he will only be able to accumulate about another $55,000 by age 62. He would need to work until age 67 — an extra five years — to reach his goal of an additional $100,000 (see chart).

Aside from working longer, Bob has two other potential options for closing his shortfall.

• He can assume more investment risk in pursuit of a higher average annual return. However, this may not be a wise move. Investments seeking to achieve higher returns also involve a higher degree of risk. Given his proximity to retirement, Bob should be considering lower-risk investments because his portfolio could take years to recover from a significant loss. And, in Bob’s case, the difference between a 6% return and an 8% return would be worth only about $1,000 by the time he reaches age 62.
• He can boost his retirement contributions to 15% of income and, if his portfolio continues to earn a 6% annual return, he may be able to accumulate $103,558 by age 62.

Decreasing your current consumption in order to save more for retirement might not sound like much fun, but if you are looking forward to retirement, it could be less painful than working longer. The sooner you meet your retirement savings goals, the more choices you may have about when you will leave work and enter retirement.

1) Employee Benefit Research Institute, 2009

The information in this article is not intended as tax or legal advice, and it may not be relied on for the purpose of avoiding any federal tax penalties. You are encouraged to seek tax or legal advice from an independent professional advisor. The content is derived from sources believed to be accurate. Neither the information presented nor any opinion expressed constitutes a solicitation for the purchase or sale of any security. This material was written and prepared by Emerald. © 2010 Emerald.