I’m leaving the world of making money online today as I wanted to share some thoughts about retirement planning and savings. Since 2008, it seems that the whole investment world has changed and companies are using this excuse to make the final move towards less generous retirement benefits for their employees. It is no secret that defined pension plans will soon be extinguished and that Government sponsored pensions will be modified. Regardless if we are looking at a small pension payment or a higher number of years of work before retiring, the whole retirement concept has changed. Freedom 55 doesn’t exist anymore; we can now consider Freedom 75 or something like that.
Can we stop this phenomenon?
Can we make sure that we all have a nice retirement… and that we don’t have to wait until the age of 75 to stop working?
I think there is a solution to this problem: We must force people to save
I think everybody that reads a little bit about personal finance knows about this ultimate savings rule: pay yourself first. What does this mean? It means to consider your savings as important as your mortgage or your car loan payments. In fact, your savings should be your first creditor, the most important one. Before paying your bills, eating or paying your rent/mortgage, you should start saving. Nice theory and those who apply it generally make a very nice living and have plenty of money to enjoy their retirement. This is why I think the Government should apply a “pay yourself first” tax on each pay check.
How about we try to use another well-known personal finance principle: save 10% of your income. Let’s play with number for fun:
Assume you make 50K per year
Saving 10% of your gross income per year would equal to $5,000/year
At a 5% investment return, you will generate the following nest egg in:
20 years: $165,329
25 years: $238,635
30 years: $332,194
35 years: $451,601
40 years: $603,998
As you can see, I’m not talking about astronomical numbers (both in terms of savings and nest egg). Some people will argue that 603K won’t be much in 40 years considering the inflation. Keep in mind that I didn’t increase the salary during 40 years either. Therefore, we can assume that numbers would likely be the same if I increase both the salary of 50K and the savings according to the rate of inflation.
Let’s continue this example and suppose than an individual starts saving at the age of 30 and makes 50K/year. At the age of 65, he will have $451K in his retirement account. If he were to live until the age of 95 (so 30 years), he will be able to withdraw $26,116 per year with an investment return of 4% with a safer portfolio. This is without inflation. If we factor a 2.25% inflation rate, we get $19,477 per year. I don’t know about Government pensions in the States but if you have been working all your life in Canada, you should be able to get a pension of roughly 11K/year today. If you add both numbers, you have $30,477/year in today’s dollar to retire.
If you have managed your budget throughout all these years, you should not have any debt and 30K per year should be more than enough to support your lifestyle.
While my example is quite simple and the math behind my rationale as well, most people don’t save money. They would rather go on vacation, buy a new TV, go out to restaurants… they basically do everything besides saving money for their retirement. And this is why I think we must force them to save.
Instead of leaving people the choice of doing whatever they want with their paycheck; I would setup an automatic withdrawal directly on their pay stub of 10% of their gross income. This amount would not be taxed (in other words, it would be treated as an RRSP contribution for Canadians). This money would be directly sent into an investing account (according to the individual wish). He would be able to manage it as he wishes but would not be able to withdraw from this account until the age of 60.
This would basically force each individual to take care of their own retirement plan. They would build their pension plan over the years. Imagine if your employer would match only 50% of your contribution (as some of them do at the moment). Here are the numbers would you get with the same example:
20 years: $247,994
25 years: $357,953
30 years: $498,291
35 years: $677,402
40 years: $905,998
This would be an easy way to reach $1M in investments before retiring!
Personally, I would be pleased! I would rather be forced to save than be forced to work longer, pay more taxes and support half of the population who didn’t want to save when they were younger!
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