Barbara O’Neill, Extension Specialist in Financial Resource Management
Rutgers Cooperative Extension
Catch-Up Retirement Planning
A recent article stated that baby boomers and younger generations face a “perfect storm” of retirement planning challenges: a financial squeeze on Social Security, pension plan underfunding, and inadequate savings-and often high expenses-in 401(k)s and similar defined contribution plans. What to do? For many people, the answer is catch-up retirement planning.
Even people in their 50s with little or nothing invested have opportunities to make up for lost time. So, if you’re beating yourself up about what you haven’t done to prepare for retirement, it’s time to stop and, instead, take action to create a bright future. Compound interest is not retroactive. In other words, it is impossible to earn interest that was never saved years before. That’s the bad news. The good news is that there are many ways for late savers to make up for lost time.
Catch-up retirement planning strategies basically fall into one of two basic categories:
Take action before retirement to increase retirement savings
Take action after retirement to decrease the amount of savings required
Like many decisions in life, catch-up retirement planning requires trade-offs. For example, spending less now to save more money in a tax-deferred plan or delaying retirement in order to earn additional retirement benefits and/or save more money. The popular phrase about “no free lunches” is a good description of the planning process because all decisions have costs.
Below are ten catch-up retirement planning strategies:
Increase Contributions to Retirement Savings Plans- According to the 401(k) Booster Calculator from Advantage Publications, saving 1% more of a $35,000 salary at age 40 will result in $35,945 of additional retirement savings at age 65 assuming an 8% average annual return and 3% average annual pay increases.
Slash Spending and Debt- Reduced spending can free up money to accelerate debt repayment. Use the Utah State University web site PowerPay to create a debt repayment calendar. Adding even small amounts to current payments on consumer debts can produce dramatic results. Once debts are repaid, reallocate previous payment amounts to retirement savings.
Moonlight (a.k.a., “Side hustles”) for Additional Income - Freelancing provides an opportunity to earn money for catch-up investing. It can also sharpen job skills and provide a “bridge” to post-retirement employment opportunities.
Seek a Higher Investment Return- The higher the return earned on investments, the less that needs to be invested. Period. The trade-off is increased risk of loss of principal. History tells us that investment volatility is reduced over long time periods (e.g., 15 to 20 years), a principle known as “time diversification.”
Maximize Tax Breaks- Compound interest works best when income taxes are eliminated (e.g., tax-free municipal bonds), reduced (e.g., long-term capital gains on the sale of securities), or deferred (e.g., 401(k)s and traditional IRAs).
Trade Down to a Smaller Home- When someone downsizes, proceeds from the sale are available to invest for future income and maintenance costs, property taxes, and utilities on a smaller property are generally reduced.
Move to a Less Expensive Location- So-called “geographic arbitrage” (i.e., moving from a high-cost geographic area to a home in a less expensive geographic location) can substantially reduce living costs in later life and reduce the amount of money required to invest for retirement.
Use a Reverse Mortgages or Sale-Leaseback Arrangement- Both of these catch-up strategies can help late savers convert their home equity into spendable cash without having to move. The former is a loan against equity built up in a home and the latter involves selling a home, typically to a close family member, and leasing it back as a tenant.
Delay Retirement Age- Continuing to work- even for just a few more years- provides two benefits: more time to invest for retirement and to allow previously saved assets to grow, and fewer years in retirement during which money is spent.
Work After Retirement- Semi-retirement, with at least some paid employment after leaving a pre-retirement job, reduces the amount of money needed to be withdrawn from investments to supplement Social Security and/or a pension. Continued employment also provides opportunities for socialization and a sense of purpose.
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