A:

In general, the earlier you start saving for retirement, the easier it will be to afford, given the number of financial obligations that tend to be incurred at that later period in your life. A closer look at the interesting aspects of compounding will illustrate how, in the retirement game, the early bird really does get the worm.

Consider two hypothetical twins, Earl and Lance. They are both 25 years old, fresh out of college and ready to start building their retirement nest eggs.

Lance decides that he'd rather enjoy a comfortable lifestyle right away, rather than scrimping and saving like he did in college. Lance reasons that he will be able to save a large chunk of money in his middle-age, because he expects to be earning much more by then. He decides not to contribute to his nest egg for the first 10 years of his career, and then contributes $3,000 per year for the next 20 years of his life.

Earl decides to start saving for his retirement immediately. Earl can only afford to contribute $1,000 to his nest egg each year. Ten years later, when Earl is 35, he decides that he can't afford to fund his nest egg any further.

Let's assume that Earl and Lance both invest their savings into an open-end mutual fund with a 15% annual return.

This table tracks each investor's nest egg at the end of every year until they are 55 years old. Keep in mind that Earl has only saved a total of $10,000. Lance has saved three times as much for twice as long for a total of $60,000.

easy_vs_late.gif

Earl's $10,000 has turned into a nest egg of more than $340,000, while Lance's $60,000 has grown to just under $314,000. This occurs because Earl is better able to make use of compounding than Lance. Notice that Earl's savings grow to more than $20,000 after 10 years, when Lance begins saving $3,000 per year. This may not seem like a big difference, but unfortunately for Lance it most definitely is. Even though Lance saves three times as much money as Earl and for twice as long, he is still not able to save as much money. In fact, the longer this time line continues, assuming a 15% return each year, the more Lance will fall behind.

Put another way, the dollars that you save in your youth are actually worth much more than the dollars you save near your retirement. The earlier you can contribute savings to your nest egg, the more time they will have to grow. When it comes to paying for a comfortable retirement, therefore, one of the biggest allies you have is time, provided that you start early. If you wait too long, time can become your enemy.

(To learn more, read Retirement Planning Basics, Delay In Saving Raises Payments Later On and Determining Your Post-Work Income.)

RELATED FAQS
  1. Is it necessary to open an IRA account?

    My home mortgage is not paid off yet. ... Read Answer >>
  2. How soon should I start saving for retirement?

    Learn about the basics of retirement planning and the reasons why it is so advantageous for individuals to start saving for ... Read Answer >>
  3. What are the best ways to plan for retirement?

    Learn the basic steps to creating a solid retirement plan that can support you and your family, and find out how to manage ... Read Answer >>
  4. How much should we put in a 529 each year to pay for college for two kids?

    If we have two kids, three and one years old, and assume we are on track for retirement, how much should we potentially put ... Read Answer >>
  5. When is the best time to start saving for my kid's college?

    I recently started a news business and would like to start saving for my 2 year old's eventual college tuition. When ... Read Answer >>
  6. Should I keep our money in savings or pay off our car?

    We have about $47,000 in savings. We have a monthly income of about $3,000. Our ages are 75 and 77. Wi... Read Answer >>
Related Articles
  1. Retirement

    Retirement Planning: Tax Implications And Compounding

    The Early Bird Gets … the Nest EggWhile it's not difficult to understand that building a sufficient retirement fund takes more than a few years' worth of contributions, there are some substantial ...
  2. Retirement

    5 Retirement-Wrecking Moves

    These common mistakes can sabotage your nest egg and your plans for retiring.
  3. Retirement

    Save Now To Retire Earlier - Or Just Work Longer?

    Working longer might seem a solution, but job and health risks make it an unreliable option. Compound interest, though, means savings always make money.
  4. Retirement

    Why Saving 10% Won't Get You Through Retirement

    Retirement experts often tout the 10% rule: To have a good retirement, you must save 10% of your income. The truth is, most people need to save far more.
  5. Retirement

    10 Retirement Savings Myths That Won’t Go Away

    If you’re confused about the different retirement investment vehicles or don’t know how to save for retirement, it’s important that you do your research.
  6. Retirement

    Top 3 Retirement Savings Tips For 55- To 64-Year-Olds

    Find ways to save money and increase your nest egg for the fast-approaching golden years.
  7. Retirement

    Retirement: What Percentage Of Salary To Save?

    There's new research on what percentage of salary you should save to ensure you end up with enough for a comfortable retirement. See how you measure up.
  8. Financial Advisor

    Retirement Bliss? Not So fast: When Savings Lag

    Most people aren't saving enough for retirement. Here are some tips savers and financial advisors can use to change that.
  9. Retirement

    Retirement Planning: Where Will My Money Come From?

    Now that we've outlined how to calculate the money you'll need for retirement, we need to figure our where that money will come from.While employment income seems like the obvious answer, there ...
  10. Retirement

    Anytime Is The Right Time To Start Saving For Retirement

    If you're looking to start building your nest egg but don't know how to do it, read on. We give you a few easy tips on how to save.
RELATED TERMS
  1. Nest Egg

    A substantial sum of money that has been saved or invested for ...
  2. Savings Rate

    The amount of money, expressed as a percentage or ratio, that ...
  3. National Savings Rate

    An estimate from the U.S. Commerce Department's Bureau of Economic ...
  4. Thrift Savings Plan - TSP

    A retirement savings plan created by the Federal Employee's Retirement ...
  5. Pay Yourself First

    A phrase commonly used in personal finance and retirement planning ...
  6. Tax-Deferred Savings Plan

    A savings plan or account that is registered with the government ...
Hot Definitions
  1. Sell-Off

    The rapid selling of securities, such as stocks, bonds and commodities. The increase in supply leads to a decline in the ...
  2. Brazil, Russia, India And China - BRIC

    An acronym for the economies of Brazil, Russia, India and China combined. It has been speculated that by 2050 these four ...
  3. Brexit

    The Brexit, an abbreviation of "British exit" that mirrors the term Grexit, refers to the possibility of Britain's withdrawal ...
  4. Underweight

    1. A situation where a portfolio does not hold a sufficient amount of a particular security when compared to the security's ...
  5. Russell 3000 Index

    A market capitalization weighted equity index maintained by the Russell Investment Group that seeks to be a benchmark of ...
  6. Enterprise Value (EV)

    A measure of a company's value, often used as an alternative to straightforward market capitalization. Enterprise value is ...
Trading Center