Retirement savings should have top priority
Most people struggle with the need to save for retirement while at the same time wanting to save for their children’s college education. Investors often wonder, should I save for my kids’ college before I save for my retirement?
If you survey financial advisers, most will tell you to fund your retirement first and then save what you can for your kids’ education. The main reason is that there are many support systems available for funding college education. We have loans, scholarships and grant programs to make college more affordable (if you’re interested in understanding how much to consider borrowing for college, you can read my column from last month on student loan debt.) And then there is a wide range of costs for college. You can choose a local community college or elect to pursue admission to a private school on the other side of the country. These costs can range anywhere from $5,000 per year for community college to $60,000 or more per year for private school.
But there is no outside support system for your retirement costs. We don’t have grants or scholarships to make it cheaper, nor can you borrow much to fill the gap. Moreover, you won’t have the choice of selecting one lifestyle that is 10 times cheaper than another, as you can with college costs. In retirement, the odds are you’ll need between 70 percent and 80 percent of your pre-retirement household income to make ends meet. That means if you have household income of $100,000 per year, plan on needing $70,000 to $80,000 per year to retire. No matter how many coupons you clip, you can’t drop those costs to $10,000.
Most people will need to save diligently each and every year for retirement. If you forgo your retirement savings for 10 years to fund your kids’ college, you’ll severely damage your ability to be financially secure as you age. For example, if you save $10,000 per year for 40 years and earn 7 percent on your money, you’ll have about $2.1 million by the time you go to retire. If you delay your retirement savings by 10 years because of college funding, you’ll only have around $1 million.
If you aren’t sure how much you should be saving for retirement, a good benchmark is a minimum of 10 percent of your household income with the goal of hitting 15 percent of pay when you can. If you’ve done that, then you can think about putting away some funds for college.
It’s also important to remember that being financially secure as you get older is a gift to your children. Otherwise, if you can’t make ends meet and need help, it’s often the kids who are burdened with these costs and responsibilities. At that point, the kids may wonder why you didn’t save more to support yourself in retirement.
Now, if you save for retirement and end up with more than you need, you can always make gifts to your children later in life. This can help them pay off any student loan debt they may be carrying. Plus, if you’ve done reasonably well saving for retirement, when you eventually pass away, there will be assets available for the kids to inherit. Those funds can serve as a nest egg for their retirement or their kids’ education.
Either way you look at it, if you fund your retirement first, the odds are you’ll eventually transfer to the children whatever costs you couldn’t cover when they were in college.
Charlie Farrell is a CEO of Northstar Investment Advisors LLC, and guides the firm’s investment philosophy. He is the author of “Your Money Ratios: 8 Simple Tools for Financial Security.” This article is for information and education purposes only. It does not constitute investment, tax or legal advice.