Capitalizing on Your Employer Sponsored Retirement Plan
By
Zach Swaffer, CFP®
February 19, 2019
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Let’s talk about employer loyalty. For much of the 20th century, Americans (by and large) followed a standard script: enter the workforce and work for a single company for decades, then throw a retirement party at 65 and cash in a pension – a reward for years of company loyalty. This pension provided retirement income; usually, a percentage of the yearly salary the employee earned while working. American Express established the first corporate pension plan in the US in 1875. By 1960, about half of the private sector employees had a pension. Of course, in 1960 the average life expectancy was 67, meaning that if you retired at 65 (standard at the time), the average pension only had to provide income for two years.
Since 1960 there have been many advances in modern medicine raising average life expectancy to 79. Suddenly, plans designed to cover a few years of post-retirement income were expected to cover retirees well into their 80s and 90s. Companies offering pensions began to realize that their retirement plans were becoming increasingly – sometimes prohibitively – expensive to fund. As pension expenses continued to rise towards the end of the 20th century, many companies were forced to design new systems to ensure their employees were financially secure come retirement.
The 401(k) plan hit the streets in 1980. The employer-sponsored retirement plan was rolled out as a replacement to traditional pensions and has since become the most common retirement savings mechanism in America. In essence, the 401(k) provides a tax-deferred way for employees to set aside wages for retirement. Employees elect to divert a certain percentage of their income each year to a 401(k) account. The diverted funds grow tax-free in that account until the employee retires.
In addition to providing the account, most companies offer a savings-match system. For instance, in a 3% match system, the company would match up to 3% of an employee’s elective contributions to their 401(k) account. The employer match provides a strong incentive for employees to start planning for retirement. If an employee doesn’t divert AT LEAST the match threshold into a 401(k) they miss out on the employer match – in other words, they lose out on free money from their employer.
Let’s talk about the benefits. Funds in a 401(k) account are able to grow tax-free. Because growth is not disturbed by capital gains taxes, accounts are able to grow faster than a standard individual account. Of course, there’s always a catch: money in employer-sponsored plans – like a 401(k) – cannot be withdrawn prior to age 59 ½ without paying penalties. Most plans offer options for the participants to increase their contribution rate on an annual basis, and small increases in contribution rate (even as small as 1%) year over year can make a huge difference by the time you retire.
Contributing to employer-sponsored retirement plans such as a 401(k) or 403(b) – the non-profit version of a 401(k) – is a vital part of preparing for retirement. The money is automatically deducted before your paycheck is cut, making it easy to budget and painlessly save for retirement at the same time.
Contributing to employer-sponsored retirement plans is an essential step towards retirement planning – but it is only the first step.
Please contact me at zach.swaffer@trilogyfs.com if you are interested in discussing the next steps you can take to ensure retirement security.
Have you ever envisioned a life of Financial Freedom and Leisure?
Have you ever envisioned a life where the chains of daily grind are broken well before the conventional retirement age, paving the way for a life of financial freedom and leisure? Embracing financial discipline and frugality can pave the way to a comfortable early retirement, answering the pressing question: Can meticulous financial planning and a frugal lifestyle significantly hasten your journey to early retirement?
What Makes Financial Planning Crucial?
Financial planning goes beyond merely saving a portion of your income; it's about understanding and rectifying financial bad habits that may impede your journey towards financial stability. Everyday financial misbehaviors such as impulsive spending, credit card debt, and the lack of a structured financial plan for emergencies often go unnoticed but have a long-term detrimental impact on financial health. Addressing these personal finance habits is the first step in financial planning.
Why is Debt Management Essential? A key aspect of financial planning involves managing or eliminating debt, which can otherwise consume a significant portion of your income in the form of interest payments.
Did you know in the US for 50-59-year-olds the average debt is $23,7191.
How Can Budgeting Secure Your Financial Future? Being unsure of where your money is going is a red flag. Budgeting is crucial to track and control spending, ensuring your expenditures align with your values.
Did you know the average individual aged between 65 to 74 spends about $55,000 on living expenses annually2.
How do Savings and Investments Impact Your Retirement Goals? Setting aside money for an emergency fund and future investments is essential. Automating this process by having a portion of your income transferred to savings or investment accounts can help in cultivating this good financial habit.
Americans believe they need an average of $1.7 million to retire comfortably, although many won't accumulate enough net worth to retire3.
As of 2019, only 11% of Baby Boomers managed to save up to $500,000 for their retirement2.
What Does Adopting a Frugal Lifestyle Entail?
Frugality is about making informed and restrained financial decisions to save money. A frugal lifestyle encourages avoiding unnecessary expenses and finding value in what you spend.
Examples of frugal practices include avoiding spending triggers like malls or online shopping platforms, utilizing cash over credit to prevent overspending, and finding cost-effective alternatives for everyday expenses.
Did you know 20% of Americans don’t save any amount of their yearly income, and 42% have less than $10,000 saved for retirement4.
What are the Key Components of Financial Planning for Early Retirement?
Emergency Fund: Ensuring you have an emergency fund can help buffer against unforeseen circumstances like a job loss or medical crisis, which might otherwise derail your financial plans.
Investment Strategy: Diversifying your investments and aligning them with your retirement goals is imperative for financial growth.
84% of Americans have a higher income than their parents did at the same age, indicating potential for savings and investment if managed wisely4.
Tax Planning: Efficient tax planning can help in preserving your wealth and ensuring more of your money is working for you rather than going towards taxes.
Healthcare Planning: As healthcare costs can be exorbitant, planning for these expenses is crucial to avoid financial strain in later years.
Healthcare can be a significant part of living expenses, as seen in the $55,000 annual spending for individuals aged 65-745.
Which Tools and Resources Can Aid Your Financial Planning Journey?
There are myriad tools and resources available to aid in your financial planning journey. Budgeting apps, financial advisors, and online courses are excellent resources. Trilogy Financial, for instance, offers a Decision Coach program designed to provide additional accountability and coaching to individuals seeking financial guidance.
37% of workers aged 25 and older, and 19% of retirees, report not knowing where to go for financial or retirement planning advice5.
How Have Others Achieved Financial Independence and Early Retirement?
The quest for early retirement often begins with a thorough re-evaluation of one's financial plan, identifying areas of improvement, and capitalizing on unforeseen savings opportunities. The year 2020 saw many Americans saving more, with an average of 10% more money saved compared to 2019, mainly due to lifestyle changes induced by the pandemic. Some redirected these savings towards home improvements, while others saw it as a stepping stone towards drafting a solid financial plan aimed at debt reduction, college planning, or accelerating the journey to financial independence.
Various individuals and communities dedicated to frugal living and meticulous financial planning have emerged over the years, showcasing diverse pathways to early retirement. Here are a few noteworthy examples:
Juan's Early Retirement Ambition: Juan, an aspiring early retiree, aimed to bid farewell to his federal job by 2031 at the age of 43. His strategy revolved around living off savings, investments, and dividends post-retirement to enjoy more time with family and delve into philanthropic ventures. Though new to the Financial Independence, Retire Early (FIRE) movement, Juan's no debt and $85,000 asset accumulation puts him in a favorable position towards achieving his goal1.
The FIRE Movement: The Financial Independence, Retire Early (FIRE) community exemplifies the synergy between frugal living and early retirement. Members of this movement, like Juan, embody a lifestyle of extreme savings and frugality, aiming to retire much earlier than the conventional age2.
Young Adults Eyeing Early Retirement: The allure of early retirement isn't confined to older age groups. One in four individuals between 18 to 34 years old has set early retirement as their significant financial milestone, driven by the principles of frugal living and meticulous financial planning3.
A 5-Year Transition Plan: A couple outlines their 5-year plan towards financial independence, with one partner continuing full-time work for an additional 3-4 years, demonstrating a balanced approach to achieving early retirement while maintaining a comfortable lifestyle4.
Frugal Living as a Fast Track to Early Retirement: The narrative of saving 75% of income, a hallmark of frugal living, expedites the journey towards early retirement, allowing individuals to accumulate substantial savings, invest wisely, and achieve financial independence sooner5.
These cases highlight the transformative impact of frugal living and prudent financial planning to achieve early retirement dreams. They speak to the importance of continuous financial plan evaluation, adapting to changing circumstances, and leveraging savings opportunities to expedite the journey to financial independence and early retirement.
Conclusion:
The road to early retirement is laden with challenges, primarily stemming from our own financial bad habits. However, if we create a financial plan, adopt a frugal lifestyle, and leverage available resources, overcoming these challenges and retiring early is an achievable goal.
As the cost of living rises, households worldwide feel the squeeze. Inflation impacts everything from groceries to housing to healthcare, and families struggle to make ends meet as they stretch their budgets to the limit.
Recent statistics show the inflation rate in the United States has risen to its highest level in over four decades. The Consumer Price Index (CPI) has increased by 7% over the past year alone. Inflation is a persistent increase in the prices of goods and services over time, leading to a decline in purchasing power of money. It affects the economy in many ways, including households, as it erodes their buying power, making it difficult to afford basic necessities.
A mature diverse couple shakes hands with a financial advisor.
How Is Inflation Impacting Households Today?
Inflation is affecting families significantly, with prices of goods and services rising rapidly. One area where inflation has a noticeable impact is the cost of groceries. According to the U.S. Department of Agriculture, food prices have increased by 6% in the past year.
Inflation is also impacting the cost of housing. According to the National Association of Home Builders, lumber has increased by more than 167% since April 2020, making building, renting or renovating homes much more expensive.
Other areas where inflation impacts households include transportation, healthcare and energy costs. With gas prices rising, transportation costs are increasing making it more expensive for families to commute to work or travel.
Healthcare costs are also rising, with medical services and prescription drugs becoming more expensive daily. Additionally, the cost of energy, including electricity and natural gas, is increasing impacting household budgets.
How We Got Here and Why?
The United States has experienced an increase in inflation in recent years, fueled by a combination of factors, including:
Supply chain disruptions: The COVID-19 pandemic caused disruptions in supply chains, leading to shortages of goods and raw materials and higher consumer prices.
Government stimulus: The US government has implemented several rounds of stimulus packages in response to the pandemic, flooding the economy with cash and contributing to inflation.
Labor shortages: The pandemic also caused labor shortages in many industries, which has led to increased wages for workers and higher prices for consumers.
Rising energy costs: The cost of energy has increased, with higher prices for gasoline and other commodities, which has increased the cost of goods and services.
Monetary policy:The Federal Reserve has kept interest rates low to stimulate economic growth, contributing to inflation by making it cheaper for consumers and businesses to borrow money.
These factors have all contributed to the current state of inflation in the US. However, inflation is complex and multifaceted; many other factors are also at play.
7 Tips to Help Navigate Inflation
Inflation can be a challenging economic environment for households to navigate. Here are tips from our team of advisors at Trilogy Financial that can help you manage inflationary pressures.
1. Calculate Your Inflation Rate
This measure provides a more accurate reflection of the inflation you are experiencing compared to the general inflation rate reported in the media.
A financial advisor can help calculate your personal inflation rate by analyzing your spending habits and identifying the goods and services that make up your personal consumption basket. This process can involve reviewing bank and credit card statements, examining household bills, and discussing significant lifestyle or spending habits changes to help you track the prices of these items over time and calculate your inflation rate.
2. Create a Cash Management Strategy
A cash management strategy will allow you to preserve your purchasing power and financial stability. A financial advisor can help you create a strategy that aligns with your financial goals and risk tolerance by:
Assessing your current financial situation,
Identifying your short-term and long-term cash needs, and
Recommending appropriate investments that balance liquidity, yield, and risk.
The strategy can involve diversifying cash holdings across different asset classes, using inflation-indexed bonds or money market funds, and considering alternative investments that offer potential inflation protection.
3. Discuss When and How to Use TIPS to Protect Against Inflation
Treasury Inflation-Protected Securities (TIPS) are a type of U.S. government bond indexed to inflation. As inflation rises, the principal and interest payments of TIPS adjust accordingly, providing investors with a hedge against inflation. A financial advisor may recommend TIPS if you want to protect your portfolio against inflationary pressures or maintain your purchasing power over the long term. It could involve assessing your risk tolerance and investment objectives and recommending an appropriate allocation to TIPS within a diversified portfolio.
4. Discuss Alternative ‘Inflation-Hedging' Assets
In addition to TIPS, assets such as commodities, real estate and stocks of companies with pricing power can provide inflation protection. A financial advisor can help you choose the right assets for your portfolio by assessing your investment objectives, risk tolerance and time horizon. As a result, they can recommend an appropriate allocation to inflation-hedging assets that balance return and risk, like commodity funds, real estate investment trusts (REITs) or sector ETFs offering exposure to companies with pricing power.
5. Strategize for How to Avoid ‘Tax Bracket Creep' as Income Rises
Tax bracket creep pushes an individual's income into a higher tax bracket, resulting in a higher tax bill. This move can erode the purchasing power of your income and reduce your savings.
A financial advisor can help you strategize on how to avoid tax bracket creep by considering tax-efficient investment vehicles, such as Roth IRAs, tax-loss harvesting and charitable donations.
6. Review Homeowners and Other Insurance Solutions to Avoid Under Coverage
As the value of assets, goods and services increase due to inflation, the cost of replacing them also rises. A financial advisor can help you review your insurance coverage and ensure they have inflation protection from risks.
Advisors can also educate you on the different types of insurance available and their benefits, such as umbrella insurance, which can provide additional liability coverage in case of a significant lawsuit or accident.
7. Reassess Long-Term Inflation Assumptions for Retirement Projections
Inflation can significantly impact retirement savings and planning because it reduces the purchasing power of money over time. Individuals will need to save more to maintain their living standards in retirement.
A financial advisor can help you reassess your long-term inflation assumptions for retirement projections by analyzing your current savings and investment strategies, projecting future inflation rates, and identifying potential gaps in your retirement plans.
From Us to You: Control Your Financial Future
As inflation continues to affect households, you should take control of your financial situation and work with a financial advisor to develop a plan aligning with your goals, risk tolerance and personal situation.
Trilogy Financial is a financial advisory firm dedicated to helping clients navigate the complex world of personal finance. We offer comprehensive services, including financial planning, investment management, and retirement planning.
If you are concerned about the impact of inflation on your finances, contact us today to schedule a consultation with one of our experienced advisors. We are here to help you take control of your financial situation and navigate through the challenges of inflation.
Female financial advisor meeting and discussing expert inflation protection tips with clients.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual 2. Investing involves risk, including possible loss of principal.
