Benefits, Retirement
Some mistakes can’t be undone, whether it’s burning a bridge, ruining an opportunity or sabotaging something you’ve worked for. Nowhere is that more apparent than in planning for retirement. While you can put in the work to make up for significant losses in your retirement account, the money you’ve lost is gone forever. But irrevocable as they may be, making mistakes while planning for retirement is part of the game. The key is to learn from those mistakes and do everything possible to avoid making them in the future. Here are some of the more common mistakes people make in their retirement planning – and how to avoid them.
Paying High Fees
One of the easiest ways to reduce your retirement savings is to invest in funds with high fees. Unfortunately, too many investors aren’t aware they’re paying too much – or that they’re paying any fees at all. This NPR graph showed that a 2% annual fee could decimate your investments by more than half in 40 years. Imagine taking half of what you’ve saved for retirement and giving it up without even knowing you had it. Choosing a fund with a fee of less than 1% will help to ensure you keep more money in your pocket.
Not Checking Your Vesting Schedule
Many employees have a matching schedule with their company’s retirement plan. Unfortunately, some of them fail to note the vesting schedule attached to those retirement accounts. A vesting schedule determines when an employee is eligible for the money their employer has contributed to their retirement account. Each company has their own vesting schedule, some more generous than others. For example, a firm with a five-year cliff vesting schedule means you have to stay at the firm for five years to be eligible for any of those matched funds. If you’re contributing 5% of your income and receive a 5% match but leave before you’re fully vested, it will be as if you’d never gotten that matched money. Make sure to check the vesting schedule, and don’t count on any matched money until it’s safely in your hands. You never know when a better job will come along or a round of layoffs will take away your chance to complete the vesting schedule.
Being Too Conservative
Investing in the stock market can be scary for many people, especially those who suffered during the Great Recession. But being too conservative with your money is also risky, especially if that means avoiding stocks. If you only invest in income funds such as bonds, you won’t earn the returns needed to grow your retirement account significantly. According to CNN Money, stocks have averaged 10% in the past 90 years while bonds have only grown 5%. Once you factor in fees and inflation, your profit with bonds is slim – and not enough to sustain you for 30 years of retirement. It may seem like you’re being cautious and responsible if you eschew stocks, but in reality, you’re just crippling the potential of your retirement fund. Keep in mind that you could unintentionally be sitting on cash in your 401(k) or retirement accounts as well. Just because you’ve transferred money into the account, doesn’t necessarily mean it’s being invested for you. Check your investment option and ensure you’re selecting how your funds should be allocated or manually investing your money as it’s transferred in.
Investing in Individual Stocks
While you need to have stocks in your portfolio to earn enough for retirement, it’s better to have a diverse range of stocks instead of supporting a handful of individual companies. Your risk is heightened if you only have stock in Apple, Facebook, and a few other individual companies – even if those companies are consistently successful. Keep an eye out for low-fee index funds, which can hold hundreds of stocks and provide a better hedge against the market’s fluctuations. Choosing well-regarded index funds is not only easier for you as an investor, but it gives you a broader reach and a bigger probability of high returns.
Letting Lifestyle Inflation Erode Your Savings Power
Hopefully, you’re in a position where your income is growing on a consistent basis, even if it’s in small increments. You probably know when these income bumps or raises are coming and you may even have the money spent before the change is even reflected. A big mistake you can make with your retirement savings is not increasing your savings contribution rate as you get income increases. If you leave your savings rate unaltered as your income is growing, you’re essentially opening the door for lifestyle inflation to creep into your spending plan. Each time you earn a raise or income boost, aim to adjust your savings upward by 1 to 2 percent immediately to ensure some of the extra funds are stashed away and you don’t become used to seeing them in your day-to-day cash flow.
Financial Planning, Investing
The investment world can be a complicated and overwhelming place to those on the outside, and it doesn’t matter where you fall on the GenY to Boomer spectrum. Not only are there a variety of account types to consider when stashing away cash for the long term (think 401(k)s, Individual Retirement Accounts, Roth IRAs, SEP IRAs, 403(b)s, etc.), but on top of that there’s a slew of investment terms and types to be aware of too! The terminology alone can make someone’s eyes glaze over if there’s no context behind it. One of the big “no no’s” in the financial planning profession is throwing around industry lingo and using schmancy words in front of clients to make them think you’re smart. That doesn’t fly for me. I took Spanish in high school and Italian in college. I know that learning a new language is tough. And I know that understanding your investments shouldn’t make you feel like you have to break out the books and start studying. That’s why I’ll be taking the next two weeks to break down some basic investment terminology for you. Part One will cover basic investment terms and Part 2 will cover account types and considerations. If you’re already finance savvy – consider the below a recap (but feel free to review and share) and if you’re new to the investment world, you’re in the right spot. Read on for a GenYer’s mini-financial dictionary.
Stocks:
One share of stock represents a single share of ownership (equity) in a company. When you purchase a share of stock, you become a part owner in the company (proportionally to the number of shares owned by others) and you can even vote on how the company operates. The price of the stock will fluctuate up and down over time depending on how much an investor is willing to pay for it (or think it will be worth). Fun homework assignment: Visit www.yahoofinance.com and look up the stock prices for some of your favorite companies. You can track the movement in price throughout the day and overtime.
Bonds:
A bond is a debt investment where as the investor, you loan your money to an issuer (a corporation or government) for a set period of time. In exchange for the loan, the issuer promises to repay the principal and a set interest amount over the life of the bond, which is a predetermined time. Think of this as an IOU where you loan a company money and in exchange they agree to a set of terms for repayment. The value of a bond will increase or decrease based on changes in interest rates (increase when interest rates fall and decrease when interest rates increase). They tend to offer more moderate returns and risk when compared to stocks and can sometimes work in a portfolio to even out risk.
Mutual Funds:
A mutual fund pools together money from a group of investors and purchases stocks, bonds and other securities. The fund acts as one investment and as the underlying securities increase or decrease in value, so does the overall value of the fund. Mutual funds help individuals to take advantage of diversification, asset allocation and professional money management when they’re unsure or don’t have the time to do it themselves. Each mutual fund has a manager and a strategy for the fund’s overall objective, which can be found in the fund’s prospectus. Some may be geared towards growth or capital appreciation and others may be geared towards income generation or stability. Even though a mutual fund may own stocks, bonds and other securities, its price does not fluctuate throughout the day, but instead is set at the end of each trading day. This means that if you want to purchase or sell a mutual fund, you will do so at the end of the day after its price has been set based on the value of its underlying securities. Note: You’ll likely see a variety of mutual fund offerings for you to choose from in your employer’s 401(k), 403(b) or TSP plan. Among these options you may see a Target Date Fund, which is a type of mutual fund whose asset allocation is set according to a selected time frame. The allocation becomes more conservative as the “target date” approaches.
Exchange Traded Funds (ETF):
An exchange traded fund (ETF) is similar to a mutual fund in that it pools together funds to purchase a set of stocks, bonds or securities. However it trades throughout the day instead of at the end of the day. The price of an ETF is determined throughout the day and they trade just like stocks. Note: Most ETFs are passive in nature and therefore tend to come with lower internal expense ratios than similar mutual funds. Be sure to check the expense ratios of any mutual funds or ETFs you’re investing in.
Asset Allocation: This is a strategy that adjusts the amounts or percentages you own in certain asset classes in order to balance risk versus reward based on your overall risk tolerance, goals and timeframe for holding investments.
Risk Tolerance: As an investor, this describes your comfort level with certain levels of uncertainty when it comes to fluctuations (large and small) in the value of your portfolio.
The key to understanding your investments is to start off as you would with any other goal. Break it down into smaller goals and conquer one piece at a time. Start by getting clear on key terms, then account types and then work your way up to how they relate to each other and most importantly – to your life. And if you’re ever feeling like your Advisor is talking above you, using words you don’t know or just plain isn’t making things easy to understand – call them out on it. You deserve to have an understanding and education about these things. Make sure to ask for it.
