Com­pound­ing: The Po­ten­tial Power of Time

The Sentinel-Record - HER - Hot Springs - - News -

Why is time of the essence? The sooner you be­gin sav­ing — even small amounts — the bet­ter your chance of reach­ing your re­tire­ment goals. Con­sider the fol­low­ing ex­am­ple that shows how much wait­ing to in­vest can cost. Put time on your side. Let's as­sume hy­po­thet­i­cal In­vestor A in­vested $1,000 per year for 10 years, be­gin­ning at age 30 and rein­vested his re­turns (in­ter­est, div­i­dends, cap­i­tal gains) back into his ac­count. In­vestor B in­vested the same amount per year, earned an iden­ti­cal rate of re­turn, and rein­vested her re­turns; how­ever, she waited un­til age 45 to start with the strat­egy and con­tin­ued with it for twice as long (20 years). Even though In­vestor A saved less money — half as much as In­vestor B — In­vestor A had more money at the time of re­tire­ment, all be­cause of start­ing ear­lier.

What's the se­cret? The ex­tra years of com­pound­ing are what boosted In­vestor A's bot­tom line. In­vestor B will now have to save con­sid­er­ably more if she wants to catch up. This is the po­ten­tial cost of wait­ing. It doesn't mat­ter what age you are — you'll have more time on your side if you start sav­ing for re­tire­ment to­day. What can you do next? A few sim­ple steps can help you along the road to re­tire­ment sav­ings:

• Talk with your fi­nan­cial ad­vi­sor about how much you should be sav­ing for re­tire­ment.

• Use a sav­ings cal­cu­la­tor to see com­pound­ing in ac­tion and how lit­tle changes to your spend­ing can have a big im­pact on how much you can save for re­tire­ment.

• Com­mit to in­creas­ing your on­go­ing con­tri­bu­tions to your 401(k), at least to the max­i­mum of your em­ployer's match (if any), or IRA.

• Avoid tak­ing loans from your 401(k) if pos­si­ble to keep fo­cused upon your long-term needs.

• If you change jobs, un­der­stand your re­tire­ment dis­tri­bu­tion op­tions and the full cost of cash­ing out. Con­sider open­ing an IRA if you're al­ready max­ing out your em­ployer-spon­sored plan con­tri­bu­tions for an ad­di­tional tax-ad­van­taged sav­ings op­por­tu­nity, or if you don't have ac­cess to an em­ployer plan. If you're self-em­ployed, con­sider es­tab­lish­ing a Sim­pli­fied Em­ployee Pen­sion (SEP), SIM­PLE IRA, or other plan with sim­i­lar tax ad­van­tages. Bot­tom line, it's never too early — or too late — to start sav­ing for re­tire­ment. Use re­tire­ment cal­cu­la­tors to get an idea about how much you should save, and ask your fi­nan­cial ad­vi­sor about tax-ad­van­taged ac­counts.

Our firm does not pro­vide le­gal or tax ad­vice.

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