While retirement may seem a long time away, it is essential to plan for it now to have a sizable income at the time of retirement. Depending on your employment terms, age, years to retirement, and many other factors, your retirement income can vary and may not be enough to lead a financially stable life after your retirement. However, you can prepare for your retirement now by taking the following steps:
1- Start investing early
When you start investing early, you give your investments more time to grow by earning compound interest. The returns your investments generate are reinvested in your retirement fund, allowing your income to grow at a higher rate through the power of compounding. To illustrate, let’s discuss the case of two school teachers, Alan and Roger, who invest a certain amount each month in their retirement funds to see how much difference they will have between their ending retirement balances.
If Roger starts investing $75 per month from age 25 through 65 and earns a return of 6%, he will have $150,109 after he turns 65. On the other hand, if Alan starts investing $100 per month from age 35 through 65 after earning the same 6% return, he will have just $100,954 after turning 65 -- approximately $49,000 less despite investing $25 more than what Roger invested each month.
So, if you want to have a higher retirement income on your retirement, you should start investing in your pension or retirement fund as early as possible.
2- Set up tax-advantaged retirement accounts
Most public school teachers have a defined benefit retirement plan that provides income while in retirement. However, if your employer doesn’t offer one or you believe that your retirement income will not be adequate to cover your financial needs, you can set up private, tax-advantaged retirement accounts. An individual retirement account will allow you to earn extra income on top of your defined benefit retirement plan that is offered to most public teachers and educators.
You can consider opening an individual Retirement Account (IRA) with an investment company. In many cases an IRA account allows tax-deductible contributions of up to $6,000 per year for the tax year 2020-21. A 10% tax penalty is imposed if you withdraw your funds before you reach the age of 59.5 years.
3- Meet your employer’s contributions match
If your employer offers a match to your defined contribution plan, such as a 403(b), you should contribute enough money to take full advantage of the matched amount. The employer’s contribution is free money which you can easily get by meeting the required amount of contribution.
Suppose, you earn $100,000 per year and contribute $5,000 to your retirement plan. Now, if your employer matches 50% of your contributions up to 5% of your salary, you can get your employer to contribute $2,500 (50% of $5,000) to match your contribution of $5,000.
If you don’t contribute $5,000 or 5% of the required contributions, you will be missing out on the extra money your employer potentially contributes.
4- Invest according to your risk tolerance
Ideally, you should start investing at a young age, which allows you to take bigger risks and invest in individual retirement accounts with higher exposure to risky assets, such as stocks. However, the older you get, the more you should reassess your risk tolerance to make sure it remains in line with your goals and time horizon.
When you open your individual retirement account with an investment company, the investment advisor will determine your risk tolerance based on your age, the number of years to retirement, your income, and many other factors. If you are investing on your own, you need to carefully invest your money and match your investment risk with your risk tolerance.
5- Determine time horizon for retirement
If you are investing for the short-term you should look to invest in low-risk assets, such as certificates of deposits, savings and money market accounts to reduce your risk without losing your principal amount. However, if you are investing for the long-term and you have more time until your retirement, you can invest in stocks and stock funds such as mutual funds and ETFs as you can afford short-term, temporary ups and downs in your investments while aiming for higher returns.
6- Estimate your retirement needs
Estimating your retirement needs will help you plan your investments and contributions to achieve your desired retirement income. There are several methods by which you can estimate the lump sum amount you will need at your retirement. One quick method is to multiply your current spending per year by 25 to get a rough idea of the amount of retirement income you will need at the start of your retirement. Suppose, you spend $30,000 a year, you will need roughly $750,000 ($30,000 x 25) at the start of your retirement and safely withdraw 4% of the amount every year without outliving your money.
7- Take advantage of supplemental hours
It is always nice to have some extra income that will help you meet your expenses while contributing to your savings. If possible, take advantage of supplemental hours and trainings through your district. Possible options include after school tutoring, teaching summer school, running an after school club, and joining site based committees. Take advantage of PLCs and paid supplemental trainings as well. You could also take the option of working extra hours through a side job such as a tutoring center for generating extra income.
8- Increase your savings
To save for your retirement, you can increase your income, reduce your expenses, or even better, both. To cut your expenses and increase your expenses, you should use any expense-tracking app to determine which expenses are eating away at your budget, allowing you to keep your expenditures under control. However, you need to categorize your transactions on the app to have a better idea of your expenses as seemingly small expenses can sometimes accrue to become bigger expenses without you realizing it.
9- Reduce your debt
Personal finance gurus recommend paying your debts before investing as remaining in debt can incur significant interest costs that can take a toll on your finances. The interest costs you save when you pay off your loans can contribute positively to your overall financial position, allowing you to contribute more to your investments and retirement accounts.
10- Purchase an annuity or life insurance
In rare circumstances, annuities or life insurance contracts can provide you with periodic or lump sum payments after your retirement in exchange for periodic deposits you make during your pre-retirement or employment period. Like IRAs, annuities can also be tax-advantaged products. You can consider purchasing an annuity after consulting with an investment advisor and asking relevant questions and learning how the fees work. Purchasing an annuity or life insurance for retirement purposes shouldn't be a decision taken lightly as they are contracts the are expensive and difficult to get out of. Generally speaking, they fit best in high income households that have taken full advantage of all pension and 403(b)/ 401(k) options, and likely have additional investments outside of the workplace. At that point if you're looking for an additional way to fund retirement and the product makes sense, you can consider an annuity or life insurance.
While most public teachers or educators are provided with a defined benefit plan from their employers, those teachers whose existing retirement plans are underfunded could consider the options we shared to generate a sizable retirement nest egg. You can opt for individual retirement accounts, fully fund your workplace 403(b) or 401(k), or take any other steps mentioned in this article to improve your retirement income. The steps mentioned in the article can help you achieve your retirement goals.