Time helps build retirement savings

When you’re putting together your monthly budget, it’s easy to leave retirement savings off your list. You have so many immediate needs, and they can be overwhelming on their own.

The trouble is, you’re also going to have immediate needs in your retirement. If you retire at 65, you’re facing the next twenty years without a working income, along with higher out-of-pocket medical expenses.

Social Security alone may not be able to cover all of your needs. Here’s a quick estimate: If $30,000 per year is what you need at minimum in your old age, you’ll need $600,000 to last you 20 years.

The average Social Security monthly benefit for retired workers in March 2011 was $1,178.80, or $14,000 per year. If you’re a young worker, these payouts could be significantly reduced by the time you reach retirement, given the long-term outlook for the Social Security system.

Even if you subtract Social Security payouts (assuming they remain at their current levels, which may not be the case) from your estimated needs, that still leaves a shortfall of $320,000.

So what can you do? Start saving now. Make room in your budget.

Because you have one major advantage: time.

Compound interest

Time is what you have in abundance: 20 years, 30 years, or even 40 years, between now and the 65-year mark. And time can do incredible things when it’s working for you.

When you put money into a retirement account, that money earns money in the form of interest (or coupons or dividends). Once those earnings are in your account, they start earning interest, together with the principal amount you originally saved. In each consecutive year, your principal amount grows, and your earned interest grows in turn. This is called compounding.

Given enough time, your earnings can greatly surpass the original amount you invested, and you end up with more money than you could have saved on your own.

The more money you save for retirement, the more favorably compound interest and time will work for you.

Let’s try playing with some numbers. The average private sector earnings per hour on Guam, as of December 2010, is $12.37 per hour, according to the Guam Department of Labor. That comes to a salary of around $24,000 per year.

Let’s try committing 10 percent of that salary to your retirement, every year, for 40 years. That’s $2,400 a year, or $200 every month. Let’s also say, for this exercise, that you’re a conservative investor. You invest in lower-risk securities like bonds or bond funds, so we’ll predict an average return of 5 percent.

If, at 25 years old, you invest $200 every month for the next 40 years, you’ll have put $96,000 of your own money away. But thanks to compound interest, your account will have grown to $304,000. That’s $208,000 you never had to pry away from your paycheck.

If you’re willing to absorb more risk and invest some funds in stocks, index funds, or mutual funds, you can end up with an even higher rate of return. If we predict 7 percent, that same $96,000 grows to $512,000 over 40 years. (In practice, asset allocation should change as you age.)

Making the decision to save now for retirement can make an enormous difference. It all starts with your control over your own budget.

Michael Camacho is the president and chief executive officer of Personal Finance Center. He has more than 18 years experience in retail banking and with financial institutions in Guam and Hawaii.



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