Americans are in serious trouble when it comes to retirement. Around 45% are at risk of running out of savings during their senior years, according to a new research report from Morningstar Center for Retirement & Policy Studies.
Not everyone is equally likely to go broke, though. The same report showed one key financial choice significantly decreases the likelihood of running short of money late in life.
Here’s what it is.
Contributing to a workplace retirement plan is the key to success
If you don’t want to be a broke retiree, the move you need to make is clear: You should contribute to a defined contribution plan. That’s a plan like a 401(k) or 403(b), which is offered by an employer and allows you to invest for retirement with contributions taken out of your pay before you get your checks.
According to the Morningstar report, 57% of Gen Z, millennial and Gen X households that don’t participate in this type of plan are at serious risk of not being able to cover all their retirement costs. The report’s findings are based on a simulation tool that assesses retirement income sufficiency by looking at individual characteristics, health-care costs and projected longevity.
In stark contrast, the model predicts that just 21% of people who participate in these plans for at least 20 years are in danger of running out of money. Many of those individuals face this risk because they cashed out their 401(k) when changing jobs or took pre-retirement withdrawals at some point.
For those who contribute to a retirement plan throughout their career, it’s not just this investing history that leaves them with plenty of cash. Contributing to a 401(k) comes with generous tax breaks and the potential to earn employer-matching funds. Compound interest also has a huge impact, as money that’s invested earns returns that are reinvested to make even more money.
What can you do if you don’t have a workplace plan?
If you have a workplace plan, contributing to it is a no-brainer to set yourself up for financial comfort in retirement. It’s easy to sign up and even if you can’t contribute a lot in the beginning, you can increase your investments over time by arranging to have salary increases invested until you’re saving around 10% to 15% of your income.
If you don’t have a workplace plan, this doesn’t mean you’re doomed to live among the 45% of Americans likely to run out of retirement money. Taking a few key steps helps you to avoid this fate. Specifically, you should:
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Sign up for an IRA
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Calculate how much you need to invest in it each month to end up with around 10 times your final salary saved
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Set up automatic contributions to your IRA for that amount
An IRA provides similar tax benefits as a 401(k), although you have smaller contribution limits (unless you’re self-employed and qualify for a SEP or SIMPLE IRA). While you won’t get an employer-matching contribution, the tax savings will still help you hit your investment goals.
The big key here is the automation. People with 401(k)s have money taken right out of their paychecks before they get paid. The default is that they save. It’s harder not to invest than it is to just stick with the status quo.
If you set up automatic contributions ASAP to an IRA and then increase them over time until you’re investing about 15% of your income, your default path will be financial success. You’re a lot less likely to undo this plan than you are to skip investing if you must do it manually every month.
Anyone making automated investments throughout their career is giving themselves the single best chance to avoid becoming one of the millions of households whose accounts will run out. Get yours set up today.
