I have a friend who is in the middle of switching jobs and asked for some advice on what to do regarding setting up her retirement account at the new employer. In today’s job market switching jobs is a very common occurrence. I’ve seen statistics that individuals entering the workforce today will switch jobs anywhere between 6 and 10 times during their working careers. It’s becoming increasingly rare to see anyone stay with the same company for their entire career. And all the job switches can make it difficult to keep track of your retirement accounts. Whether you’re going through a job change or starting your first job, here are four keys to setting up and managing your employer-sponsored retirement plan (such as a 401k or 403b).
1. How much do you need at retirement?
This is a difficult question, and the answer is different for everyone. Are you planning on retiring early or working until 67 (the current age requirement to receive full Social Security benefits)? Are you content with living a fairly frugal retirement, or do you want to travel the world and live in luxury?
There are several rules of thumb for how much you’ll need. One is to plan on having enough to provide 80% of your pre-retirement income. There has been much debate as to whether this is too high or too low, but I think it’s a fairly good target. The other part of the equation is figuring out how much you’ll need to generate that 80% figure. A good tool is the retirement calculator at MSN Money.
2. Does your employer offer a company match?
This is the first thing you should look at. Many employers will match your retirement contributions up to a certain threshold. For example, your employer may match contributions dollar for dollar up to 3% of your income. So, if you earn $40,000 a year and contribute 3% ($1,200), your employer would kick in an additional $1,200 into your account.
If your employer offers any match, you should at least contribute enough of your pay to receive the full employer match. This is essentially free money as long as you work there long enough to become fully vested.
3. How much should you contribute to your retirement fund?
This is closely related to figuring out the total amount needed for retirement. Your necessary contributions will depend on how much you need at retirement. Again, there are several rules of thumb for this. The most common rule is that you should contribute between 10% and 15% of your annual income towards retirement. I know this seems like a lot, but keep in mind that this does include the employer match. So, let’s say your employer matches dollar for dollar up to 4% and then 50 cents on the dollar for the next 3%. To receive the entire employer match, you would contribute 7% of your income to your retirement fund. In turn, your employer would contribute 5.5% of your income as a match, bringing the total retirement contribution to 13.5% of your income.
4. What investment funds should I select for my retirement account?
This can easily be an entire post in itself, and I’ll work on getting this written in the near future. The key is to diversify your investment holdings.
I know that my friend is around my same age (late 20’s), so my own personal allocations would probably be a good fit. In general you can subtract your age from 120 and use the result as the percentage of your retirement fund that should be in stocks. Since I am 28, this would mean I should invest 92% in stocks and 8% in bonds. This is pretty aggressive, so maybe you’d feel more comfortable with 85% stocks and 15% bonds mix.
Every employer-sponsored plan is different, so your fund choices will be different than what I have in my plan. But in general, you should use a few different stock funds (I would suggest an Index Fund for the majority of your stock holdings and then an International Fund, Mid-Cap Fund and/or Small-Cap fund for the rest of your stock holdings). Since your bond holdings aren’t as large, you can get by with using one or two bond funds. One thing to look at is the expense ratio on the individual funds, which represents the percentage of your holdings that go to pay fund expenses. You want to make sure to select funds with low expense ratios (index funds generally have the lowest expense ratios).
The Bottom Line
I know that planning for retirement and setting up retirement accounts can seem overwhelming, and I’ve just given you a lot of information. So, let’s boil it down to the basics.
If your employer offers a match, you should contribute up to the match. Beyond that, your best option is to invest any additional funds into a Roth IRA.
Select investment funds with low expense ratios, and make sure to select age and risk-appropriate funds. If you’re young (20’s and 30’s) you should invest heavily in stocks. If you’re nearing retirement you should invest more in bonds.
I didn’t mention it above, but if you have the option to rollover a retirement account from your previous employer into the account at your new employer, I recommend doing it. It makes it easier to keep track of your retirement fund if the balances are consolidated into as few accounts as possible.
8 comments
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Modest Money
July 30, 2012 at 2:36 pm (UTC -4) Link to this comment
Yes these numbers are a little overwhelming. I always get a bit anxious when I hear these kinds of numbers thrown around. It’s a good reminder that I really need to go back to school to get a more secure job. It’s that or build up my online business enough to make a decent living. I’ve never even had a job that offers retirement contribution matching.
Justin
August 5, 2012 at 9:46 am (UTC -4) Link to this comment
Yeah, I hear so many people talk about how “being your own boss” is the best way to go, but I think “working for the man” still has a lot of perks. Health insurance and retirement benefits are two major ones.
Lance @ Money Life and More
July 30, 2012 at 9:36 pm (UTC -4) Link to this comment
The MSN Money retirement calculator is by far my favorite. I like how I can choose all of the variables and see the outcomes! I save an aggressive amount of my post tax income in Roth vehicles and I’m hoping it pays off in the long run!
Justin
August 5, 2012 at 9:55 am (UTC -4) Link to this comment
A Roth is a great way to go for contributions beyond what the company will match! And if future tax rates go up, which I’m sure they will, the Roth will prove to be a great move.
My Money Design
August 1, 2012 at 12:15 pm (UTC -4) Link to this comment
This is just such an important topic for me (as you can tell because I post about it weekly myself). People really need to give this more thought than they do. Your topics above are a good place to start. My recommendation to anyone is to save A LOT more than you think you will need to. Its much easier to start now than it is to try to catch up when you’re older!
Justin
August 5, 2012 at 10:02 am (UTC -4) Link to this comment
Definitely! The best thing you can do is start contributing as early as possible. That way you have those extra years of compounding returns.
Lynne
August 3, 2012 at 4:45 am (UTC -4) Link to this comment
Very informative post. My retirement age is still far far away from my age now. But I do believe that as early as possible we should save as much as we can before ti time come. The value of money today is maybe lesser when we reach our retirement age so better start saving as early as now.
Justin
August 5, 2012 at 11:39 am (UTC -4) Link to this comment
I know I have a long time to go as well before retirement. But it creeps up on your faster than you think, so you’re exactly right that it’s important to start doing everything we can as soon as possible.