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How To Save For Retirement And Build The Most Wealth

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How To Save For Retirement And Build The Most Wealth

Have you started saving for retirement?

If you answered yes, congratulations on taking the necessary steps to ensure financial freedom during your golden years.

If your answer was a no, it’s time to start planning for the future before it’s too late.

But how do you start saving? What retirement saving approach has the possibility of building the most wealth?

See Also: The Best Retirement Books You Can Buy For 2020

The Waterfall Approach.

First used in project management, the waterfall model follows a linear and sequential approach that entails systematically completing one phase of a project before moving to the next step. By using this approach, a project cannot move to the next stage until the preceding stage is completed.

This same approach can be used to save for retirement and build the most wealth adequately. By using this method, you view savings as a waterfall with different pools, where you have to fill one pool before moving to the next one.

Below is the order you should follow when deciding where to send your next retirement dollar.

Build An Emergency Fund

Nothing can ruin your financial plan like unexpected events. A layoff, a terrible financial decision or an illness can push back your retirement by years.

This is why your first step to retirement saving should be to set aside three to six months of expenses.

Keep this money in a low-risk account like a savings account.

Another way to prepare for an emergency is by having a high deductible health insurance plan that protects you in case illnesses and accidents occur.

Invest In A 401(k) To The Employer’s Match

Now that you’ve set aside money for emergencies, it’s time to take advantage of free money through a 401(k) or 403(b). 

Most employers will give you extra money when you contribute to your retirement account. This is called matching. So, if you save 4%, your employer may match 4%, making your total contribution 8%.

If you’re not sure about your plan, ask the HR department or your manager

If you don’t invest in a 401(k), you’re leaving free money on the table.

Before investing in a 401(k), make sure you have an emergency fund set up. This way, you don’t have to borrow from your 401(k) when an emergency strikes. Having an emergency fund helps you avoid early withdrawal penalties and keeps your retirement plans on track.

Pay Off High-Interest Debt

Paying off debt is also a form of saving.

Not all debt is created equal. When paying off debt, focus on high-interest debt such as credit cards.

Credit card companies charge exorbitant interest rates that go to as high as 21%. By not paying off these expensive debts, you'll be paying more in interest than you’d earn in any investment.

Simply put, not paying off high-interest debt is equivalent to losing money.

Max Out Your Health Savings Account 

Congratulations: you now have an emergency fund, have reached your employer 401K match and are now free of high-interest debt. 

The next place to maximize your savings is through a health savings account. Saving your money in an HSA plan allows it to grow tax-free as long as it's used only for medical expenses.

You're limited to contributing $3,450 as an individual and up to $6,850 as a family.

To best use a HSA plan, save money, but don't reimburse yourself for medical expenses that you incur. In this way, you accrue high amounts of tax-free income that you can use for retirement expenses.

Get Smart About Taxes

The government wants you to save for retirement to avoid being a financial burden to them and the society when you get old.

This is why the government offers several incentives for retirement savings accounts.

An example is the Roth IRA, which entails paying income tax as you make your contributions. Doing so ensures that future withdrawals will be tax-free. A Roth IRA is best for younger investors who have a long time to save before retirement.

If you’re nearing retirement age, it’s best to save through a traditional IRA, which entails paying lower taxes during contributions, then paying income tax on future withdrawals.

For 2020, you can save up to $6,000 in either the traditional IRA or Roth account.

Pay Off Low-Interest Debt

With four pools filled, you’re on your way to financial freedom.

Your next step should be to pay off low-interest debt. This includes student loans, mortgages and auto loans.

Paying off these low-interest loans will help you reduce monthly expenditures during retirement and also allow you to save on interest. 

See Also: How Much Income Do Retirees Have?

Circle Back To Your 401(k)

Congratulations, you’re debt-free and have hit the maximum on your Roth IRA

If you still want to save, which is a great decision, you can circle back to your employer’s retirement plan.

It’s important to note that the maximum amount you can save in your 401(K) in 2020 is $19,500 if you’re younger than 50. If older than 50, you’re allowed to make an additional $6,500 catch-up contribution.

Invest In A Taxable Brokerage Account 

If you still have some money to save after filling up all baskets, you can now save in a taxable brokerage account.

While there are no tax benefits, a brokerage account allows you to enjoy favorable capital gains and dividends. And unlike a retirement account, you can withdraw this money at any point without worrying about penalty fees.

Final Thoughts

Saving $5 per month is better than nothing. You may not have thousands of dollars to spare right now, but that doesn't mean you shouldn't start.

Starting small allows you to build a saving culture. Your future self will thank you.

 

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