How and Why to Save for Retirement in Your 20s

Saving for retirement probably isn't even on your mind yet, but it should be! Here's how and why you should start saving for your future in your 20s.

When you’re in your 20s, saving for retirement usually feels less than urgent. After all, you’ve got plenty of time before your golden years. And even if you do know how important it is to build your nest egg, how are you supposed to do it on an entry-level salary while you’re drowning in student loan debt? Although it can feel like an insurmountable challenge, it is possible to get started on your retirement fund in your 20s—and what’s more, it’s critical that you do. It might not be as fun as saving up for a big purchase or a vacation, but saving for retirement is important. Here’s what you need to know.

You can reap the rewards of compounding

You likely already know the basics of how the stock market works: investors (hopefully, including you) purchase assets like stocks and bonds and reap profits when those assets increase in value. But one of the most powerful things about the market is that those value increases can be exponential in nature—thanks to the effect of compounding. When you reinvest your capital gains or dividends back into the stock market, you can earn more money in gains and dividends, even if growth continues at the same rate. That can lead to a quickly rising curve that represents one of the best ways to fund a comfortable retirement. And time is the key to reaping the greatest possible rewards from compounding.

An example of compounding

Let’s say you put $5,000 into an investment account and see a return of 5% over the course of a year. (That’s a modest figure; the actual average 10-year annualized return is about 10%, historically.) At the end of that year, the account will be valued at $5,250, or an increase of $250. If the growth rate stays the same, the account will be valued at $5,512.50 at the end of the next year, an increase of $262.50. That extra $12.50 might not seem like much, but over the course of 40 years, it can really add up: you’d have over $35,000, even if you didn’t add another dime to the account. But in order for compounding to work to your advantage, you have to have time on your side—which means you have to get started early. Like, now.

It’s important to keep in mind that no investment is risk-free, and it’s possible to lose money in the stock market. That said, the S&P 500, a commonly cited index of US assets, has seen substantial overall growth over the past 90 years, which includes the 2008 financial crisis and the Great Depression. In the long run, compounding tends to work in an investor’s favor.

Related: Adulting 101: How to Understand Your Finances

Catching up is harder than you think

As powerful as compounding is, it can’t make up for lost time—and although many young people assume they’ll be able to play catch-up on their retirement funds later, it’s not so easy. That’s because the more time goes on, the larger your contributions will need to be in order to meet your savings and growth goals. Even at the higher income level you may be hoping to earn down the line, it’s probably easier to contribute $50 a month now than it will be to contribute $500 a month in a decade…which is probably why nearly half of baby boomers surveyed by Natixis Investment Managers regret not saving sooner

There are options available to free up extra funds

Even if you’re raring to get started, investing can feel impossible when you’re drowning in student loan debt. With median monthly payments frequently weighing in at more than $200, how are you supposed to find cash to invest? Fortunately, there are options available to help you reduce the burden of your student loan payments in both the long and short term. For example, consolidating your loans can mean making one monthly payment instead of several and may also lower your monthly payment by way of longer loan terms. Refinancing your student debt is another option that could result in a lower interest rate or monthly payment, especially if your credit score has increased since you first took out loans.

Related: 5 Tips to Help College Students Manage Their Finances

You could be leaving money on the table

If you’re lucky enough to work for an employer who offers a match on your retirement contributions, you’ve got access to free money—and that’s not a phrase we use often around here. An employer match means your employer will double your retirement contribution up to a certain percentage, which can be an extremely helpful growth tool. If you don’t contribute to your retirement fund at all—and ideally up to the match percentage—you’re literally leaving free money on the table. You work hard for your compensation, so why not take advantage of all of it?

Don’t be scared of the vesting schedule

If you’re a recent graduate just starting at your first “real” job, the vesting schedule—that is, the amount of time it takes for you to fully own your retirement funds—may be intimidating. Who knows if you’re still going to be at this job in six months or a year? The good news is, vesting only applies to the contributions your employer makes to your retirement fund; you’re always legally entitled to the contributions you’ve made from your own paycheck. So even if you do jump ship before the schedule’s up, you’re not losing any money you’ve earned and contributed (although it certainly is nice to stay long enough to keep your employer match). 

You have options besides a 401(k)

In today’s increasingly freelance and gig-economy-geared world, it’s very possible you may not have access to an employee-sponsored retirement plan like a 401(k). But that doesn’t mean you’re up the creek without a paddle! You’ve still got options when it comes to retirement savings. For example, an IRA is a tax-advantaged retirement investment account available that just about anyone can contribute to, although there are limits to how much money you can put in per year ($6,000 for 2020). Regular investment accounts can also be used for retirement savings, though they don’t have the same kind of tax benefits that retirement-specific accounts like IRAs do. 

Related: A Beginner’s Guide to Financial Responsibility

While the reality of retirement is a long way off, the idea of it is right in front of you, and you can take it into your own hands now for a less stressful and financially stable future. Set yourself up for success and a happy retirement by starting to save for it now—you’ll definitely thank yourself years down the line for doing so.

For more post-college life advice, check out our “adulting” tag or the tag “finances” for great blogs to help you in the real world. 

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Tags:
finances financial planning money savings student life

About Callie McGill

Callie McGill is a Content Marketer for ValuePenguin.com.

 

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