It’s not easy to plan for long-term financial security — especially as a student who probably doesn’t have a lot of financial security to begin with.
You might think it’s too early to be thinking about Roth IRAs and 401(k)s, but unfortunately the golden rule when it comes to investing is the earlier the better. We all want to be able to retire one day, and the sooner you start planning for it, the sooner you’ll be able to actually retire.
If you take anything away from this article, it should be that earlier is better than more. If you put $10,000 into an account with a steady annual compound interest rate of 4% and an annual contribution of $500 when you’re 20 years old and leave it there until you retire when you’re 60, you’ll have $95,522. If you start contributing $2,000 annually with the same interest rate when you’re 40 years old, you’ll have $63,938 when you’re 60. Despite the 40 year old contributing $10,000 more than the 20 year old, they have approximately $32,000 less when they retire. So start investing now.
On the bright side, starting in 2024, holders of 529 accounts will be able to roll over unused funds directly into a Roth IRA without incurring the usual 10% penalty for non-qualified withdrawals or having to report additional taxable income.
It’s important to keep in mind that Roth IRA accounts currently have an annual contribution limit of $7,000, and there’s a lifetime 529 rollover limit of $35,000. This is a useful way to help plan for your future if you’ll have leftover funds, but don’t start adding more to your 529 as an investment method — there would be no benefit, but there would be several extra steps.
Once you graduate and have a full-time job, you will likely be able to opt into an employer-sponsored retirement plan. There are many different options available, but the most common is a 401(k) plan.
With a 401(k) plan, employees are able to directly put a percentage of their paycheck into their account, and their employer will frequently match the contributions, on average, up to 4-6%. The money in that account can be invested and grow tax free over time.
Since many of you aren’t yet done with your education or may not be entering full-time employment, index funds are a good place to start. When stock picking (choosing individual stocks to invest in), individuals can normally only “beat the market” for a few years, with professional fund managers maxing out at around a decade.
Index funds, however, are inherently diverse, so you’re reducing your risk by investing in dozens to thousands of stocks in one fund.
Lots of people don’t set up a Roth account, employer-sponsored plan or invest through other methods until they’ve been working for several years — don’t be one of them. In an entry level position with a lower salary, your contributions can be much lower than they will be later in life, but it’s important to start as soon as possible.
Virginia Doherty is a columnist. Contact her at [email protected].
