This strategy for retirement planning is for the millennials. Did you know that if you save about $4.68 a day, you could become a millionaire when you retire? Less than $5 a day – that’s about the cost of a cappuccino at Starbucks. This is a highly obtainable goal, even with all of your current expenses.
You may ask yourself why start planning for retirement when it’s so many years down the road. But one of the keys to retirement wealth is to start saving young. As soon as you start to make earned income, you should begin planning for your retirement. After all, the IRS and Congress have given all of us, especially millennials, the tools we need to retire wealthy through the concept of tax-deferral or tax-free investments. The difference between generating income that’s tax-deferred or tax-free depends on which retirement plan you establish.
There are two main types of individual retirement accounts. Both are crucial for retirement planning as a Millennial. To start off, a pre-tax IRA, also known as a Traditional IRA, offers a tax deduction for the amount you contribute. Then, when you reach 59 1/2 and can take a distribution without penalty, you will be taxed on that distribution.
The second retirement plan is the Roth IRA. As long as you have patience and can wait until you are over 59½ and have had the Roth IRA open at least five years, all Roth IRA contributions, income, and appreciation will be tax free. That means no federal or state income tax, ever, upon withdrawal.
Whether you make pre-tax or Roth IRA contributions, consistency in your approach and starting young is key. Take a look at the numbers below to see how much you can yield if you start retirement planning at a young age.
Even if You Save a Little, You Can Yield a Lot
If you start at 25 and make a $1,500 annual contribution (about $4.20 a day) and generated an 8% rate of return on your investments, when you reach 70, you will have saved $626,239. Of course, you must be consistent with your annual contribution of $1,500.
Let us assume you start a few years later, at 28 and you are in the 25% federal income tax bracket. Although you start older, if you manage an annual contribution of $2,136 and generate an 8% rate of return, when you reach 70, you will accumulate $701,853.
Now let’s imagine you can save even more annually: $2,920. If you begin at 26 and you are in a 25 percent federal income tax bracket, with consistent contributions, you will accumulate $1,125,676 (at an 8% rate of return) when you reach 70.
As you can see from these numbers, consistency and taking advantage of your age does pay off.
Why Millennials Should Choose the Roth IRA
Both a Traditional and Roth IRA will allow you to save for retirement, but there are a few advantages of using a Roth IRA. With the Roth IRA, not only are distributions tax-free, you can save for not only for yourself, but for future generations. A Roth IRA has no required minimum distribution (RMD), whereas a Traditional IRA requires that you begin to withdraw at 70 1/2. Thus, in order to achieve tax-free retirement wealth, you will benefit from turning to the Roth IRA.