As much as you may love your job, perhaps you'd rather be living out your retirement fantasies - like sipping highballs with Latin-sounding names while putting for a quadruple bogey on a golf course in Guam, for example. And as great as your job may be - what with the questionable workspace, the battery acid coffee and the arcane orders from the top - you were not meant to work until death! In this article, we'll show you how to plan for the end of your working years so that you can live them out in style.
Retirement often is seen as the reward for a lifetime of labor. However, this freedom after years of servitude is not guaranteed. It is an unfair reality that, even late in life, you must look after your own affairs. After all, no one else will. To make the goal of retirement (or early retirement) anything more than an ethereal dream, you must not only plan for it, but your plan must be sound and it must be followed.
Setting Your Sights
The first step to retiring is to figure out what this means for you. To do this, you need:
- An estimation of how many full working years you have until retirement. Age 65 often is chosen by default as the end of your working years - do you have a different age in mind? If so, consider how that will affect your retirement goal.
- A frank appraisal of your finances. Write down all of your assets, savings, investments and debts, and implement a realistic budget.
An idea of the type of lifestyle you want to maintain when you are retired. If you are speaking about your retirement in vague terms like, "I think I will travel a bit," you have to try to come up with at least a few specifics. Where will you live? How often will you travel and where will you go? What will this type of lifestyle cost in the number of years you plan to spend in retirement? (For more on how to crunch these numbers, see Determining Your Post-Work Income.)
When you run this through a calculator, the number you get may be a little intimidating. Don't panic. Although it may seem that you are standing alone against the ravages of time, you actually have some allies at your side that are often not considered.
When most people think about the government helping them retire, they focus on social programs and national pension programs. The current state of these programs is not good in some countries, for instance, many will agree that the United States Social Security program will soon be non-existent it if continues on its current path.* Most financial advisors in the United States will completely factor out any possibility of collecting from social security programs when advising clients. It may be prudent if you did the same. If you live in a different country, you should have your financial advisor check into the stability of any of your country's social security programs so as to determine whether it should be factored into your plans for retirement.
*The ratio of covered workers Vs the number of beneficiaries under the United States social security program has been reduced significantly over the years. In 1940, there were 35,390 workers paying into the system, with only 222 beneficiaries, a ratio of 159.4 to 1. In 2003, the number of workers increased to 154,309, with 46,752 beneficiaries, a ratio of 3.3 to 1.
Furthermore, the income taxes you pay on your income may delay your retirement, as it results in you receiving less disposable income. Bear in mind though that some governments try to offset that by giving you access to pre-tax and tax-deferred investment programs. The idea is that you get to put in the money on a tax-deferred basis, usually when you pay taxes at a higher rate and take it out when your income tax rate is lower. While not everyone ends up in a lower tax bracket at retirement, in most cases, it is beneficial to contribute to a retirement plan on a pre-tax basis, where your earnings grow tax-deferred. What could be better? The 401(k) plans are just the tip of the iceberg for American investors, whereas Canadians have RRSPs. (To learn more, see A Closer Look At The Roth 401(k), Introducing The Roth 401(k) and for Canadians, Registered Retirement Savings Plans (RRSP).)
Father Time is your best friend and greatest enemy. Your relationship with time can be a paradox. You want time to increase the value of our investments, but you don't want inflation to have the same period of time to decrease our savings. You want lots of time to prepare for retirement, but you also want to retire as soon as possible. These goals are very difficult to balance, but although time will always be working against us (no one lives forever), it can also work in our favor. Try to take advantage of time by starting early, investing for the long term to balance risks & rewards and planning well ahead of your personal deadline (the day you want to retire). (For more insight, see Why is retirement easier to afford if you start early?)
You may have thought that your boss never appreciated the work you did, but he or she just shows that appreciation in different ways. If your employer offers tax-deferred and/or matched contributions, you have just found your first retirement fund. This is one of the easiest ways to save for retirement because it is a regimented form of investment to which you can contribute pre-tax dollars. If it comes off your paycheck before you see it, will you really miss it?
Your employer may be paying you more than you thought. For instance, if your employer provides a matching contribution to your 401(k) plan, that matching contribution is part of your compensation package. However, you must make salary deferral contributions to your 401(k) plan in order to receive matching contributions. Be sure to contribute up to the amount necessary to receive the maximum matching contribution under the plan if affordable. A 401(k) plan is one of the easiest ways to save for retirement because your savings are taken out of your paycheck before you receive it, and it allows you contribute pre-tax dollars. If it comes off your paycheck before you see it, will you really miss it?
Making a Plan
To achieve your goal, you must take the target you set and figure out how to get there via matched contributions, tax-deferred investment plans, after-tax savings and other types of investment in the time you have left before your plan to stop working. There are four elements that will be central to your plan:
- Clearing Debts
This includes the mortgage and car loans as well as the more obvious types of consumer debt. (For more on this, see Digging Out Of Personal Debt.)
- Maxing Out Tax-Deferred Programs
You have to pay tax on other forms of investment, so maximizing your tax-deferred investments should probably be your first priority (after paying off high interest debts, of course).
- Building a Portfolio
This is the process of purchasing financial vehicles that will augment your current income as well as your retirement income. An ideal portfolio would also take into consideration your risk tolerance and time left before you reach your projected retirement date (See A Guide To Portfolio Construction.)
- Scheduling Maturity Dates on Fixed-Period Investments
Ensure that the investment matures before you need the money, as this will help to eliminate the need to use loans to finance your retirement. Early on this is not a great concern, but this arrangement of investments becomes more important as you get closer to your target retirement date.
Although you may want to consult a financial planner to make sure you have things properly organized, there is no reason why you can't learn to do much your own retirement planning. Further, being armed with knowledge and understanding of the factors that will affect your retirement program will help to make sure you get the most of any discussions with your financial planner. The most important thing is to act early. Whether it's seriously applying debt management or starting to max out your tax-deferred savings, you need to act soon if you want to make it to that golf course in Guam before Father Time stops the clock.