It is important to help people, particularly young people, understand how time is on their side. Most people have an intellectual understanding that starting to save when they are young is helpful. I do not think most people (even older people) understand just how much time can help.
How is this?
Which is better, saving $1 for every $10 during financial independence or $15 for every $10?
If you want to achieve financial independence ten years into the future, you need to save $15 each year for every $10 you want to spend each year in the future.
If you want to achieve financial independence forty years into the future, you need to save $1 each year for every $10 you want to spend each year in the future.
To retire at 65, start at 25 and contribute 1/15 of what you have to contribute if you start at 55. Interest on your contributions provides the rest of the funding for your financial independence.
How do we get there?
On pretty much every financial topic there are differences of opinion. To make my calculations, I chose these assumptions:
- Average earnings rate 7%
- In retirement, you can spend 5% of your nest egg each year to have it last 30 or more years
If we start with a plan to draw $100,000 from our retirement savings in addition to any pension and social security we choose to consider, we need $2,000,000 at retirement. That represents spending 5% of your retirement savings.
Next we determine how much we have to save annually to accumulate $2,000,000 at 7%. You would have to save $144,755.01 annually. That translates into $14.48 per $10 of annual income in retirement. I rounded to $15.
But what if we have 40 years to save the $2,000,000? Now you would have to save $10,018.28 annually, or $1.00 per $10.
For a second example, we might find someone seeking to draw $30,000 each year. To generate $30,000 with a 5% rule, we will need to accumulate $600,000. Over 10 years, our client would have to save $43,426.50 or $14.48 per $10. Over 40 years, the client would save $3005.48 per year or $1.00 per $10.
Is that a compelling way to talk about saving early? I would love your feedback.