Retirement may seem ages away, but for better or worse, you’ll spend most of your life preparing for it. At least you should be. The retired life may seem like a pretty sweet deal (Ditching the 9 to 5! Florida!), but not working also means not receiving a paycheck. Think of your retirement fund as a way to protect your future—and give yourself the opportunity to actually relax after a lifetime of hard work.
If you’re just beginning to plan for retirement, thinking about it or already on the path, we’ve put together a list of the biggest mistakes to avoid.
1. Not Starting a Retirement Plan
- What we mean: The number one mistake in retirement planning is waiting to save.
- Why: Time is one of the most important ingredients to saving enough money to live on in retirement. The later you start, the harder it will be to save enough. Also, retirement accounts give you a break on taxes, so you should take advantage of that as soon as possible.
- How to avoid it: Join your company’s retirement plan as soon as you get your first job out of college, and start contributing to your 401(k). Open a traditional IRA or a Roth IRA when you’re earning income.
- Already made this mistake? You’ve got company: A quarter of Americans haven’t started saving for retirement, according to a Bankrate retirement poll. But don’t be a statistic! Sign up for your employer’s 401(k) today, and open your own IRA. (Learn how here.)
2. Not Saving Enough
- What we mean: Don’t underestimate how much money you’ll need in retirement in order to preserve your quality of life.
- Why: A recent Gallup poll found that not having enough money for retirement is the biggest financial worry in America. Because you won’t be getting a paycheck when you’re retired, it’s important to have enough saved up to support yourself for a few decades.
- How to avoid it: To lead a relatively comfortable life in retirement, you’ll need about 70% to 90% of your current annual income for each year that you’re retired and not pulling in a paycheck. Run the numbers once a year (which you can do here), factoring in inflation, to see how much you need to save. (Yes, that includes the morbid task of guessing how long you’re going to live.)
- Already made this mistake? If you’re not saving enough right now, don’t freak out. Start small—even $5 a day helps. Increase your contribution by 1% every three months and every time you get a raise. You’ll get to your contribution goal faster and more easily than you expect.
3. Not Taking Advantage of Your Employer’s Match
- What we mean: Don’t turn down free money. Seriously.
- Why: If your employer offers a retirement plan, they may also match your 401(k) contributions, up to a certain limit (85% of them do, according to Vanguard). Matching works just the way it does in donations: You give a certain amount, and the company will give an amount in return. Not taking full advantage of the match is leaving money on the table. Even if it’s just a few hundred bucks, it will grow significantly over a few decades.
- How to avoid it: Contribute at least enough to pick up the full match from your employer. If it exists, be aware of your firm’s vesting schedule, which determines how much of the match you’re allowed to keep when you leave—typically a certain percentage for each year of service. Even if you don’t think you’ll stick around long enough to snag the full match, vesting is not a reason not to save.
- Already made this mistake? Sign up now! If you need more incentive to start saving for retirement, your employer’s match might be just the kick you need.
4. Derailing Your Retirement Plan for Short-Term Spending
- What we mean: There are plenty of ways you can rationalize spending your hard-earned cash now instead of after you retire: a remodeled kitchen, a trip to Buenos Aires, a new car, etc. But if you don’t save now, it will only get harder over time.
- Why: Sacrificing the future for the present will only hurt you in the long run.
- How to avoid it: Make saving for retirement one of your top priorities, even over other seemingly top financial priorities such as paying for grad school and your kids’ college tuition. After all, you can take out loans for grad school or your kids’ college tuition, but there’s no such thing as a retirement loan.
- Already made this mistake? Reverse your priorities. Take out a loan for these lesser financial priorities and begin sending your money back into your retirement fund.
5. Cashing Out Your Retirement Savings
- What we mean: It’s your money, and you should be able to take it out, right? Actually, you can’t without paying a hefty penalty.
- Why: According to Hewitt Associates, nearly half of workers cashed out their 401(k) plan when leaving their job in 2008, including 60% of those in their 20s. Doing so means you’ll be hit with federal, and maybe state, penalties, as well as income taxes on your withdrawal. The money could push you into a higher tax bracket, too, which means you’ll owe even more taxes. You could end up losing 40 to 50% of your retirement savings, and you’ll undo all your hard work.
- How to avoid it: Even if you’ve only got a few thousand dollars in your account, don’t cash it out when you leave your job. Do what’s called a rollover—a direct transfer from one 401(k) to another, or to an IRA. If you’re raiding your 401(k) because you’re low on cash, you need to make your other savings priority an emergency fund, in which you save at least six months’ worth of your take-home pay just in case.
- Already made this mistake? If you’ve already cashed out your retirement fund, restart saving as soon as possible to make up for lost time.
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6. Borrowing From Your Retirement Savings
- What we mean: Some employers let you borrow from your 401(k), which can be a better deal than a traditional loan. But it also comes with risks.
- Why: First, you’ll be pulling money out of the market, where it could be growing. You’re also costing yourself more money. When you take out a 401(k) loan, you pay it back with money that’s taxed today. Then, when you retire, you’ll be taxed on it again. What’s scarier is that if you leave your employer, you have 90 days to pay back the loan in full. Otherwise it defaults and is considered an early withdrawal, and you’ll owe taxes and penalties.
- How to avoid it: Again, build up a solid emergency fund so you’re not tempted to raid your retirement savings. As we stated above, you shouldn’t sacrifice the future for costs that pop up now.
- Already made this mistake? Pay off the loan—but not at the cost of paying off your credit card debt, which unlike your 401(k) loan, is constantly growing. Fortunately, the interest on your 401(k) loan won’t grow, and you’ll pay it back to your (future) self.
7. Depending on Social Security or a Pension
- What we mean: Don’t forgo a retirement plan because you assume Social Security or a pension will support you.
- Why: Social Security or a pension plan can help out, but they will not be your main source of income during retirement. In 2010, women over 65 received an average annual Social Security income of just $11,794, which is right around the poverty line. The risk with pensions is simply that they might not pan out. And if they don’t (and you decide to change jobs, for example) you’ll be left with no retirement savings.
- How to avoid it: Think of these benefits as a nice extra.
- Already made this mistake? Save the bulk of your retirement money in your 401(k), IRA and a personal investment account.
8. Taking Too Much or Too Little Risk
- What we mean: Don’t choose investments that are inappropriate for your stage in life, your timeline for retirement and your personal stomach for risk.
- Why: Investing your money in the stock market exposes you to risk, but it’s also the best way to outpace the effects of inflation, which lowers the value of your money over time. When you’re young, you’ll want to go with riskier investments that hold the promise of larger potential payouts. If you lose money on those investments, you have time to recoup your losses. But the closer you get to retirement, the less risk you’ll want to take with your nest egg.
- How to avoid it: Every year, check that your portfolio has the right allocation for your age, your investment time horizon and your personal risk tolerance. Take our risk tolerance quiz right here.
- Already made this mistake? If you think you’re playing it too safe, consider shifting more of your funds into stocks. If you feel like you’re taking too much risk, make sure you’re not just getting spooked by short-term changes in the market. Markets are cycles, and they go up and down. The right time to reassess how much risk you’re taking is if you’re getting older and your risk tolerance has changed.