Let’s say you want to retire at age 65 with $1 million in retirement money. Achievable? Sure, if you have a plan. But first, understand the reality of it all and the steps you must take.
No matter how much you earn, the amount you invest each year needs to be based on goals. Your investment goals provide you with an objective and motivate you to stick with a doable investing plan. They should also be in line with how much you can afford to invest. Know that with an income of $50,000, the constraints of living expenses may at first keep you from investing as much as you would like. The key, though, is to keep your eye on the ball of your investment strategies. As your income goes up, so can your savings.
By following four key financial planning steps, you can decide how much to invest starting out and devise a plan for gradual increases. To reduce these concepts to everyday terms, this particular case uses the example of a 30-year-old individual earning $50,000 per year with an expected increase in income of 4% annually who wants to have $1 million in retirement funds at age 65.
Key Takeaways
- Investing a portion of your income is a smart, doable way to grow your wealth to pay for future needs and wants.
- What to invest in and how much depends on your income, age, risk tolerance, and investment goals.
- For a 30-year-old making $50,000 a year with a $1 million retirement savings goal, putting away $500 a month starting out should get them to their goal, assuming a 6.5% average annual return.
Set Your Goals
At age 30, you likely have several goals: buying a house, having children, providing those children with a college education, and retiring with plenty of money on your own time schedule.
Granted, all this is a lot to accomplish on a $50,000 income. However, expect that your income will increase over the years, so don’t let your starting or current income inhibit your goals. However, you do have to prioritize, and as you set up your investment plan, target each goal separately.
After inputting some assumptions into a retirement calculator, this indicates a need for $1 million in capital, which is your target. Using a savings calculator, and assuming an average annual return of 6.5%, you need to save $500 per month starting at age 30, your savings goal. Your next step is to create a spending plan that allows you to meet this goal.
Create a Spending Plan
The mistake many people make when creating a personal spending plan is that they determine their savings amounts around their monthly expenses, which means they save what they have left over after expenses.
This method invariably results in a sporadic investing plan, which could mean no money is available for investing if expenses run high one month. People who are intent on achieving their goals reverse the process and determine their monthly expenses around their savings goals. If your savings goal is $500, this amount is your first expenditure.
It is especially easy to do if you set up an automatic deduction from your paycheck for a qualified retirement plan. This forces you to manage your expenses on $500 less each month.
Lock in a Percentage of Your Income
Most financial planners advise saving 10% to 15% of annual income. A savings goal of $500 a month amounts to 12% of your income, which is considered an appropriate amount for that income level.
Assuming your income increases by an average of 4% per year, this automatically increases your savings amount by 4%. In 10 years, your annual savings amount, which started out as $6,000 per year, goes up to $8,540 per year. By the time you are 55, your annual savings will increase to $16,000.
Invest According to Your Risk Profile
This investment plan assumes an average annual rate of return of 6.5%, which is achievable based on the historical return of the stock market over the last 100 years. It assumes a moderate investment profile, investing in large-cap stocks.
If you are adverse to risk or prefer to include investments that are less volatile than stocks, you will have to lower your assumed rate of return, which means you must raise the annual dollar amount you invest.
When you’re in your 20s, 30s, and 40s, you have a longer time horizon, which may allow you to assume a little more risk for the potential of higher returns. Then, as you get closer to your retirement target, you will probably want to reduce the volatility in your portfolio by adding more fixed-income investments. By staying focused on your benchmark of a 6.5% average annual rate of return, you should be able to construct a portfolio allocation that suits your evolving risk profile over time and allows you to maintain a constant monthly investment amount.
What is a financial portfolio?
A portfolio is a collection of financial investments like stocks, bonds, commodities, cash, and cash equivalents, includingclosed-end fundsandexchange-traded funds (ETFs). People generally believe that stocks, bonds, and cash comprise the core of a portfolio. Though this is often the case, it does not need to be the rule. A portfolio may contain a wide range of assets, including real estate, art, and private investments. You may either choose to hold and manage your portfolio yourself or allow a money manager, financial advisor, or another finance professional to manage your portfolio.
What is a personal spending plan?
A spending plan is an informal document used to determine the cash flow of an individual or household. A personal spending plan, similar to one’s budget, helps outline where income is earned and where expenses are incurred. When paired with a financial goals worksheet, the personal spending plan can be used to create a road map for monitoring spending, as well as helping determine the most appropriate methods for saving.
What is an investment strategy?
The term “investment strategy” refers to a set of principles designed to help an individual investor achieve their financial and investment goals. This plan is what guides an investor’s decisions based on goals,risk tolerance, and future needs for capital. They can vary from conservative (where they followa low-riskstrategy in which the focus is on wealth protection) to highly aggressive (seeking rapid growthby focusing oncapital appreciation).
Investors can use their strategies to formulate their ownportfoliosor do so through a financial professional. Strategies aren’t static, which means they need to be reviewed periodically as circ*mstances change.
The Bottom Line
Having a plan is, naturally, the best way to achieve a goal. That holds true when reaching financial goals, such as retiring at a set age with the amount of money you need to live comfortably. You can, for instance, retire at age 65 with $1 million in retirement savings, if you start young—say, at age 30—and prioritize the savings throughout your working years, by following four steps. They are setting goals; creating a spending plan; locking in to saving a percentage of your income; and investing according to your risk profile.
