The effect of time on your retirement account

Posted 2023-05-26 18:53:26

The effect of time on your retirement account

When you’re young, you’re in one of the best positions you’ll ever be in to start planning for retirement.

It might seem strange to think about retiring from a career you probably just started, but setting aside even a small amount of money in a retirement account now, can have a big impact on your savings several decades down the line. That’s because time can be your best ally when it comes to investing for retirement.

Early retirement savings: a hypothetical example

Let’s take a look at what happens if you start investing just a small amount for your retirement in your early twenties, say, $10 a week over the course of 10 years in a tax-deferred retirement investment account, like a traditional 401(k) or IRA.

Now, when we say tax deferred, that means you’d pay taxes later, generally in retirement. And, for example, a contribution to a traditional IRA could be eligible for a tax deduction, depending on your income and whether you are participating in an employer plan.

In any case, let’s say that these hypothetical investments grow at a rate of 7% per year. Now, 7% has historically been a pretty decent return on investments over long periods, but it certainly isn’t guaranteed. There could be years when your investments perform really well, and the return is even higher. And there could be years when your investments don’t do as well, and you actually lose money.

Unlike a deposit account at a bank, an investment account is not FDIC insured and is not bank guaranteed. But for the sake of this hypothetical example, let’s say that your money does grow at an average constant rate of 7% per year. Setting aside $10 a week, every week for 10 years, adds up to $5,200 of principal.

But over the course of this time, if your investments have had the opportunity to grow at a rate of 7% each year, that could come out to a total of about $7,700. So that would be an extra $2,500 that you could theoretically earn in your first 10 years of making steady contributions of $10 a week.

Now, you might think that isn’t much after 10 years, and hey, you could use that money to save for an awesome vacation instead. But let’s take a look at what happens to that $7,700 over the next 10 years.

Even without contributing any more money to your account, which you’d hopefully still be doing, at a 7% annual rate of return, that $7,700 could grow into about $15,150. And over 20 years, about $29,800. And after 30 years, which could be around the time you start thinking about retiring, it might’ve grown to about $58,600.

$58,600 is a substantial amount that could come from an initial investment of just $10 a week for 10 years. That’s $53,400 that was earned off of an initial investment of $5,200 in this scenario.

Factors that impact retirement savings

Now of course, this example is hypothetical. It doesn’t take into account inflation, which will also have a substantial effect on the value of your funds over time.

And there’s no guarantee that you can get a 7% return. And in a tax-deferred account like a traditional 401(k), you’ll need to pay taxes on what you withdraw when you retire. There may also be expenses associated with your investment account. As well as expenses and fees associated with individual investments. And all of these things can have an impact on the performance of your account over time. To learn more about your particular account, you can speak to an investment professional.

Conclusion

But getting back to our example: Over time, these investments have had the opportunity to grow, and in addition to that growth, any money you might earn from your investments, when reinvested, can provide the potential to earn even more.

While it’s never too late to start contributing toward retirement, setting aside just a few extra dollars now can give your retirement plan a great start.