The New Rule for Saving for Retirement
Are you saving for retirement yet? Not to freak you out, but if you've graduated from school and are making money in the working world, it's time to start putting some away for later.
There's no hard and fast number for this, but CNN Money suggests you should expect to live on 85 percent of your working income as a retired person. That means you need to have 85 percent of your working income available to you every year once you retire, whether that's through prior saving or some other method (everyone's financial and work situation is different).
How you do it is up to you, but there are a lot of financial experts who will recommend strategies you can consider.
Here's a new one: It's an unwritten financial rule that young adults in lower income brackets should be putting money into post-tax retirement accounts (the income is already taxed when it goes into the account), like Roth IRAs, and older, more wealthy people should be making tax-deferred investments (the money is taxed only after it's taken out) into traditional IRAs and 401(k) plans. (More on the difference between Roth and traditional IRAs and why it matters here.)
Make the most of your retirement savings
But Michael O'Doherty, associate professor of finance at the University of Missouri Trulaske College of Business, said it's time to change our thinking. Regardless of your income or age, you should be diversifying—putting money into a post-tax Roth IRA and pre-tax traditional IRA or 401(k).
He and his research team developed a model to determine the best decisions you should make with your money if you have access to both post-tax and pre-tax retirement accounts based on your age and income.
"Our analysis emphasizes two aspects of the U.S. tax environment that are often ignored in retirement savings literature," O'Doherty said to the university. "First, the tax system is progressive, meaning that the level at which you are taxed varies widely depending on income. Second, future tax policies are unknown."
With tax policy somewhat of a moving target—the rate for married taxpayers with inflation-adjusted income of $100,000 has changed 39 times since the introduction of income taxes in 1913, O'Doherty pointed out—the best bet is to diversify. Spread your savings across different types of accounts to get the biggest return on investment over time.
"For retirement contributions, a good rule of thumb is to invest 20 percent plus your age into traditional, tax-deferred accounts," he said. "Applying this rule, a single 40-year-old investor with at least $40,000 of taxable income would put 60 percent of their retirement contributions in a traditional IRA or 401(k)-type plan."
There are a lot of options out there, but one thing is certain, O'Doherty said.
"The most important thing is that people are saving for retirement," he said. "The best advice is to save as much as you can."
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