(Sam Swenson, CFA, CPA)
Earn $ 1 million per year and having $ 1 million are two totally different states of the world. While making seven figures each year is a remarkable achievement, saving $ 1 million over a traditional career is much more within reach, even if you don’t have a high income.
Here are four realistic paths to a million dollar retirement.
1. Start investing as soon as possible
One of the fundamentals of good financial planning is to start saving and investing as early as possible. Small amounts of money invested consistently from the start of your career can pay big dividends – literally and figuratively – by the time you reach retirement age.
For example, take someone who earns $ 75,000 per year and saves $ 4,000 per year in a Roth IRA. Even though Roth IRA’s contribution limits are higher, let’s assume that this person only saves $ 4,000 each year and – somewhat shockingly – never receives a pay raise during that time. Imagine that by investing in simple, inexpensive index funds, they could earn an average rate of return on investment of 8%.
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Assuming this person had a career that starts at age 22 and spans until age 62 (when Social Security payments become possible), they would have a staggering $ 1,036,226 in retirement. .
This example illustrates the power of compound interest, which refers to the exponential growth that occurs when investment interest accumulates over time.
2. Increase your savings rate
In the example above, the person saved just over 5% of their pre-tax income to arrive at an investment balance of over $ 1 million after 40 years of work. If current trends are any indicator, many people are now looking to avoid 40 years of work by saving diligently and investing early in their careers.
One of the main ways to reach $ 1 million even sooner is to simply save and invest more. Continuing the previous example, let’s say that instead of saving $ 4,000 per year, the person is saving $ 8,000 per year.
By increasing their savings rate to over 10%, they reach $ 1 million after 31 years, almost a decade more than if they had only saved $ 4,000 each year. Reaching a higher savings rate is no easy task, but doing it early and often can cut your working life out by years.
3. Increase your income
Obviously, it’s easy to put more away when you have more. Professions that require many more years of schooling, such as medicine and law, will often enter the savings and investment game long after their peers, but will also earn a little more. on average.
It stands to reason that a higher monthly income saves more money, and this is generally true even if high debt is involved. Higher-paying professions tend to make it easier to optimize tax-deferred retirement accounts, such as 401 (k) in the workplace or 401 (k) solo. When this is done year after year, the sales are compounding at lightning speed.
If you are just starting out, or even if you are not, consider ways to increase your income. It could mean a career change or just adding more hours to your current schedule. Either way, take steps to build your investments.
4. Do better with your investments
This is a two-pronged approach: first, make sure you win at least market performance by holding total market index funds with the lion’s share of your portfolio. Choosing stocks based on the “gut feeling” is likely to put you in hot water, and selling investments too early can pump up your tax bill. Be prepared to hold funds for the long term and stick to a passive strategy across the market.
Second, make sure you keep the costs as low as possible. A traditional advisor’s fees can be as high as 1% or more, and when converted to dollars, they can leave you six figures in the red over a period of years. Over time, the compounded value of these fees can dramatically reduce the value of your retirement portfolio. Make sure that you take a low cost approach to maximize the value of your hard earned money.
Make it happen
Earning a living wage, adhering to proven financial planning principles, and staying consistent over the years are all part of the millionaire image. Accumulating $ 1 million is very much possible when you have the right knowledge, so make sure you know the details and apply them in your own investor life.
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