Now for the GREAT PART
As much as we HATE jargon and financial mumbo jumbo, you are going to LOVE this!
We are going to bring back the idea of the “time value of money,” a fairly boring description of a SUPER powerful concept, one that Albert Einstein called “the eighth wonder of the world.” And you will see how it WILL work in your favor.
The idea is this:
Each dollar you save today could be worth much more when you retire.
Which means . . .
Saving the equivalent of one year of income now
will cover several years of retirement spending in the future
So we just talked about the goal of saving the equivalent of one year’s worth of income. Consider that a bucket of savings that you created and set aside. And while you get busy saving ANOTHER years worth of income, the first bucket of money will certainly grow over time. That is, thanks to the time value of money. Which means this bucket will continue to grow for years, all the way up to the day you retire. And at that point, it will cover WAY more than just your first year of retirement. It will almost certainly cover more (provided you have at least 10 years before you retire).
It’s the snowball effect. It’s investment growth working in your favor over time. Get your retirement account started and watch it get larger and larger as it rolls forward. The savings you accumulate will grow on its own. For example, over a 30-year period, assuming an 8% rate of return, your one year of income could be worth 10.1 years of income in retirement.
How Much Will Your Savings Grow?
Use this handy dandy, super simple widget to understand how much your one year of savings will cover in retirement:
The power of compounding is there. The math doesn’t lie. But what could hurt is this: if you wait too long to start, the power of compounding weakens, like the Force in Star Wars Episode IV. Compounding is exponential, meaning it grows faster the longer the time period. The later years of compounding always drive the most impact. So it is so important to start now. Save the equivalent of one year of income, and you will have actually saved enough to cover MANY years of retirement. Did you use the calculator above to see how your one year of savings multiplies into many years of retirement spending thanks to the time value of money?
So what have we learned?
-A good starting goal is to think about saving ONE YEAR’s worth of annual income.
-It will take a little time, a bit more than five years given a savings rate of 15% and typical investment returns. But it will be worth it, because the money you save now could be worth MUCH MORE in the future.
-No matter what you earn today, your saving will grow to cover much more than just one year’s worth of retirement spending. And that is thanks to the time value of money, a.k.a. compound growth. Set yourself up for a comfortable retirement by just getting started now, and let the time value of money work for you. Make money while you sleep!
You can do it!
Next Up:
Your savings rate—and by implication, your ability to control spending—are the most important factors in retirement success. But it’s not like investment returns don’t matter. They do. So if you are ready, we are going to talk about investing.
Friendly request: This whole blog is an endeavor aimed at helping folks improve their retirement situation. My goal is to post content that folks like you find useful in planning their retirement. Please comment below with feedback and think along the lines of “Was this helpful? What else would you like to know? Any burning topics or steps related to retirement planning on your mind right now?” Thanks!
