There’s no “silver bullet” for successful retirement planning. Reaching your retirement goal depends on many things.
You can’t control how the stock and bond markets will behave between now and your retirement date. But you can position yourself for a successful retirement by taking some practical steps.
In this article, we’ll share those steps and help you understand whether or not you’re on-track.
Define Realistic Goals
Retirement may seem like a vague and far-off notion. If you’re early- to mid-career, there’s a pretty good possibility you haven’t really thought about your retirement goals.
You’re not alone. Survey after survey provides evidence that a majority of working Americans are unprepared for what happens when the paychecks stop.
But this isn’t optimal. Your first step: Choose a goal. Decide how much income you want to produce, each year, during retirement.
You may, for example, set a goal of having enough investments to create $80,000 per year as a retirement income. Or perhaps your goal is $50,000 annually, or $120,000 annually.
A reasonable rule-of-thumb is to target an annual retirement income that’s around 80% of your annual pre-retirement earnings. But everybody’s case is different. Think about your lifestyle needs, as well as other priorities such as leaving a legacy for the next generation or for your favorite causes.
Take a Readiness Check
Your second step: Take stock of your “retirement readiness.” Pinpoint missing pieces of the puzzle.
Here’s an easy first question: are you currently saving for retirement? If your company has a 401(k) plan, are you maximizing it?
The maximum individual annual contribution to a regular 401(k) plan is $17,500 – in other words, that’s how much you are allowed to deduct from your taxable income. Are you doing this?
If you’re not able to max out your 401(k), you should at least try to contribute up to the maximum “employer matching” level. At this phase, every dollar you contribute is matched by your employer – it’s money you don’t want to leave on the table.
Starting early is the most important predictor of long-term investing success. Your money compounds over time, so the earlier you start investing, the better. If you’re still young and living paycheck-to-paycheck, it may seem like you don’t have enough left over to make a difference. But try your hardest. Every dollar counts, and they all add up.
Take Control of Allocation and Location
What’s your third step? Choose your asset allocation and account location strategy.
The words “allocation” and “location” sound similar, but they refer to two distinct – and important – decisions around a retirement plan.
Allocation refers to how you divide the total pie among different asset classes, such as stocks, bonds and other assets like commodities or REITs.
Each of these feature distinct performance characteristics. Some rise while others fall. You don’t want to be overexposed to one or more concentrated areas of risk.
Diversifying your portfolio among assets with low levels of correlation to each other helps reduce the risk of severe drawdowns. This puts you in a better position to weather the periods of intermittent volatility that are part of most long-term market cycles.
Location refers to how you divide your portfolio between regular and tax-advantaged vehicles.
Your 401(k) and IRA plans are qualified (i.e. tax-advantaged), while non-qualified brokerage and investment accounts generate taxes on dividend and interest income, and capital gains. The best practice is to concentrate the more tax-sensitive assets in qualified accounts and use your regular (taxable) account for the more growth-oriented assets.
Bonds, preferred stock and high dividend common stock are good candidates for your 401(k) or IRA, while exposures like emerging markets or small cap stocks would be more appropriate for taxable accounts.
Watch Costs Like a Hawk
Step four? Watch costs carefully.
The other headwind (apart from taxes) that can eat away at your investments are your fees and expenses. Survey after survey reveals that a majority of individual investors have no idea what they are paying in fees. Don’t be like the majority. Stay on top of what’s coming out of your portfolio.
Avoid “sales loads” wherever possible. They do nothing other than pay the salaries and commissions of sales and distribution agents. Watch out for hidden fees like “early redemption.” Even though you are investing for the long term, there may be reasons why you need to get out of a fund sooner rather than later, and you don’t want to be penalized.
Also bear in mind that mutual funds are not like luxury goods: you don’t get more for paying more. There is no demonstrable positive correlation between higher fees and better performance.
Get Help
Finally, look for unbiased help.
Unlike previous generations of Americans, you probably don’t have the benefit of a guaranteed pension waiting for you at retirement. You’re on your own, but that doesn’t mean you can’t get help.
Online resources like Jemstep provide a full array of expert services, from helping you to define goals and project your retirement income, to developing an allocation strategy aligned with your goals and risk considerations.
Finally, stick to the plan and stay disciplined over time. Follow the outline above, and you’ll be on-track to reach your retirement goals.