Retire Comfortably! Quick Start Guide
Get started now, and plan more fully when you have time!
- Establish your tax sheltered retirement plan: 401(k), 403(b), 457(b), or IRA.
If your income tax rate is high enough to be a problem then you need a tax-sheltered retirement plan. Tax-shelter allows your savings to grow faster, without the drag of taxation. Filling out the forms or websites to establish plan may be a pain, but it is well worthwhile. Over the course of a working lifetime — or even over an extended retirement — tax shelter will allow your investments to grow and grow faster than ordinary investing subject to annual taxation. Eventually taxes have to be paid on withdrawal, but they are paid only once. They won’t be a drag on investing growth.
- Contribute the maximum allowed to the plan(s). Take full advantage of an employer’s matching contribution. Make equal contributions in each pay period.
If your employer makes a matching contribution, take full advantage of it! Even if you need income right now, contribute up to the match. Not doing so means leaving money on the table for your employer and for the IRS.
If your tax bracket is high enough to be a problem, then it is essential to contribute the maximum allowable to your tax-sheltered plan. That allows your money to work for you and grow in the plan for years and decades before it gets paid out (and is subject to taxation). The tax-sheltered plan offers you an interest-free loan of money that would otherwise go straight to the IRS. Contributing to the plan means taking advantage of that interest-free loan.
Making equal contributions in each pay period keeps the process simple for you and arranges dollar cost averaging (smoothing out the risk of buying at the peak and the benefits of buying at the trough of securities prices).
- Allocate the money in the plan(s) to common stock index funds. A typical allocation is 75% to Standard & Poor’s 500 Index Fund, 25% to an international common stock index fund. Specify reinvestment of all dividends and distributions.
Over long periods of time (years and decades), the risks of common stocks are repaid by much higher returns than more predictable savings and interest-bearing securities. If you don’t hold common stocks elsewhere, then you should have them in your tax-sheltered account. It’s not really possible to actively manage these holding successfully. For most individual investors, most of the time, a broadly diversified index fund is the best place for your sheltered money. Reinvesting all the returns allows them to grow and compound over time. That makes the miracle of compound interest work for you. That means earning dividends, dividends on the dividends, dividends on the dividends on the dividends, … .
- Don’t worry about market declines — they are a buying opportunity.
The stock market will fluctuate. A lot! Since you’ve scheduled regular investment and reinvestment, each market decline is an opportunity to buy at an advantageous low price. The plan is to buy low and hope to sell high. Over long periods, the stock market always appreciates. No one has a crystal ball that allows perfect timing, but buying steadily over the course of decades allows your account to take advantage of market fluctuations. There’ll be time to worry about safety as you approach withdrawal of your accumulations.
- Keep contributing and reinvesting until retirement.
As long as you have a significant income tax rate, there is an advantage to contributing. Money that goes in escapes taxation at that time and can be paid out over the following decades, leaving it time to compound and grow. 21st century longevity means there is a long time to enjoy (and to need) the growth of your wealth. Many people find that their income and their tax rates go down with retirement. Reduced income is not good news, but your lower tax bracket in retirement makes tax-sheltered investing during your working years doubly rewarding!
Copyright 2014, R. M. Starr