The Power of 1%
My clients often ask me how much they should save. My answer is always the same: as much as you can and as soon as you can. Many people consider saving money is a daunting task. But like many other things in life, it's less daunting and stressful if you focus on making small and incremental progress over a long period of time. Such approach will bring you a tremendous amount of benefit in the end.
Let's use Jennifer as an example. Jennifer is 30-years old and she is single with no children. One of her new year's resolution is to start saving for her retirement by participating her employer's 401(k) plan. Jennifer's annual pre-tax income is $60,000 and it increases each year at the rate of 1%. Let's assume Jennifer's 401(k) plan's annual rate of return of is 6% pre-tax and Jennifer plans to retire when she turns 65.
The following are three scenarios which have all the same assumptions except the percentage of Jennifer's pre-tax contribution.
Scenario Percent to Contribute 401(k) balance at 65
1 5% $388,286
2 6% $465,943
3 7% $543,601
As you can tell from the table above that a 1% increase of contribution brings a big bump of ending balance after 35 years.
Please be aware that the IRS sets the dollar amount limit of how much one can contribute to his/her 401(k) plan. The 2017 annual contribution limit for employees is $18,000 per person per year. Those who are age 50 or over can make an additional catch up contribution of $6,000 a year. Don't be despaired if your employer doesn't provide a 401(k) plan. There are many other options available, such as a traditional IRA, a Roth IRA, SEP IRA and single 401(k). Please consult a qualified investment adviser for which plan will work best for you.
Disclaimer: The example above is for illustration purpose only. Investing always involves risks and there's no guaranteed of return. Please consult your own investment adviser to get more accurate projection based on your own information.