PERSONAL FINANCIAL MANAGEMENT: TOP 5 Questions--#3: Is it too early to begin saving for retirement?

The third question (of the TOP 5) from my recent lecture at Wheaton College that I will discuss is:

Question #3: I’m only 22 years old, isn’t it too early to start saving for retirement?

Answer: NO!

At 22 years of age retirement seems so far away, so why would I recommend beginning to save today? Simple: Time value of money.

Time value of money is one of the biggest advantages we have when saving for the long-term. This idea centers on the one thing that we can’t control...TIME...and using it to our advantage. The more time you have until you need the funds to meet your investment goal the better. Let me prove this with an example:

The scenario is a 22 year old with an initial goal to retire at age 60 with an annual income of $40,000 from his retirement account.

First, we determine what we need in our retirement account to produce $40,000 of annual income. I suggest that you withdraw no more than 4% from your account in order to ensure that it lasts your entire lifetime; therefore, you would need $1,000,000 in your retirement account to pay yourself a $40,000 annual income.

Next, we need to determine what we need to invest annually to accumulate $1,000,000 in our retirement account. Here we need to use some assumptions or variables in our calculation. In order to stay conservative I suggest that we use an 8% rate of return. With the use of a financial calculator we input:

N=38 (retirement age goal – current age)
I= 8%
FV= $1,000,000
Solve for PYMT: PYMT=$4,539 TOTAL SAVED: $172,482 ($4,539 x 38 years=$172,482)

Therefore, you need to save $4,539 per year, earning 8% rate of return to accumulate $1,000,000 to produce $40,000 of annual income.

Now, to prove it’s not too early to start:

Let’s change the scenario slightly by adding 10 years to our example, so now we have a 32 year old with the same goal. Again, using our financial calculator:

N=28
I=8%
FV=$1,000,000
Solve for PYMT: PYMT= $10,488 TOTAL SAVED: $293,664 ($10,488 x 28=$293,664)

Look closely, in our previous example our 22 year old will save a total of $172,482 to meet his goal, but by waiting 10 years to start now he has to save $293,664 or $122,182 MORE!

Now to solidify my point, let’s just say he waits ONE year and begins at the age of 23, by saving the same amount per year, $4,539 but starting ONE year later, his account value at the age of 60 is $921,736 or $78,273 LESS.

YES, waiting ONE year costs you $78,263 dollars in your retirement account. Therefore, DON'T wait another year…START TODAY!

Wishing you Great Financial Succe$$,

BILL

"Steady plodding brings prosperity; hasty speculation brings poverty" (Proverbs 21:5)