Why it pays to start saving for retirement early
Retirement saving is one of the few areas in personal finance where time counts for more than money. Each year you start sooner is another year of compound interest, and that year gets added at the end, when it is worth the most.
The cost of waiting
Compare people who save $300 a month at a 6% annual return and retire at 65:
| Starts at | Years saving | Total contributed | Final balance |
|---|---|---|---|
| 25 | 40 | $144,000 | $597,447 |
| 35 | 30 | $108,000 | $301,355 |
| 45 | 20 | $72,000 | $138,612 |
| 55 | 10 | $36,000 | $49,164 |
Starting at 35 instead of 45 means contributing $36,000 more, but ending up with $162,743 more. Every extra dollar turns into about $4.50.
Here is another way to see it. To reach the $301,355 of someone who starts at 35 with $300, a person starting at 45 has to save about $652 a month. That is more than double the effort for waiting ten years.
These figures are before taxes and fees, and they assume a steady return, which does not happen in real life. Markets can fall, and that matters most when you are close to retirement. Use them to see the scale, not to expect a specific result.
Look at the result in today’s dollars
Decades from now, prices will be higher. With inflation of 2%, a balance 30 years away buys only about 55% of what its number suggests. That $301,355 would be worth about $166,400 today.
The retirement calculator shows your income in today’s dollars, so you can compare it with what you spend now. That is the number that really matters.
How much will you need?
There is no one figure for everyone. To get a rough idea:
- Check what you already have coming. Your my Social Security account shows your estimated benefits, which depend on your earnings and when you claim.
- Estimate your spending. Many people spend less in retirement, with no mortgage or commuting, but may spend more on health care or travel.
- Find the gap. What is left is what your savings have to cover.
- Run it again with cautious numbers. Use a modest return and somewhat higher inflation. Better to be pleasantly surprised.
Accounts that can help
In the US, tax-advantaged accounts can make a big difference:
- A 401(k) or similar workplace plan, especially if your employer matches your contributions. A match is an immediate return that is hard to beat elsewhere.
- An IRA, traditional or Roth, depending on your income and whether you prefer the tax break now or later.
Rules and limits change each year, so check the current figures with the IRS or your plan provider. This article does not recommend any specific product.
If you are starting late
That is no reason not to start. Every year counts, and you may have more ability to save at this stage. You have several levers:
- Save more, especially as other costs fall away, such as a mortgage or children’s expenses.
- Increase a little each year, for example with each raise. That is less painful than one big jump.
- Use catch-up contributions. People aged 50 and over can generally contribute more to retirement accounts.
- Work a little longer, if you can. It adds savings, delays withdrawals and shortens the years your money has to last. Delaying Social Security can also raise your monthly benefit.
- Adjust your expected spending, including possibly moving to a less expensive home.
- Check your fees. Lower costs leave more of the return for you, with no extra effort.
What generally does not work is chasing high returns to make up for lost time. Close to retirement, a big market fall leaves you less time to recover.
If you are just starting out
If you are young and your paycheck barely stretches, there is good news here too: you do not need much to start.
- Start small. Saving $50 a month for 40 years at 6% comes to nearly $100,000, and only $24,000 of that comes out of your pocket.
- Raise it when you can. Each pay rise is a chance to save more without feeling that you have less.
- Cover the basics first. Build your emergency fund and clear expensive debt, although getting an employer match can often come first.
What is universal is the scale of the effect: someone who starts ten years sooner has to save far less to end up with the same amount. Try your own numbers in the retirement calculator.