It's Never Too Soon: Retirement Planning for Millennials

Millennials are in a bind, squeezed by changing workplace opportunities and massive student debts. To get on the right path to build their wealth, they should follow these four steps.

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Much has been written about the shaky financial health of Millennials, most notably that they are lagging behind other generations in personal net worth and falling behind in their retirement savings. This is due less to the popular belief of excessive spending and an alleged aversion for saving money, and more to the unfortunate timing of entering a workforce severely impacted by the crisis of the 2000s.

Nevertheless, regardless of their current financial status, with proper planning, Millennials have plenty of time to get back on track. The key is to create flexibility by saving, so it does not result in penalty or taxes if funds need to be withdrawn before retirement. In doing so, individuals can hopefully avoid a costly “debt cycle,” which often occurs due to unexpected expenses.

The Research: Millennials are Lagging Behind, But It Is Not All Their Fault

Unfortunately for Millennials — generally considered those born from 1981-1996 — many entered the workforce during significant financial upheaval, including the dot-com bubble and the Great Recession. That made it difficult to find quality employment with solid compensation and benefits — including retirement plans. Coupled with the fact they are less likely to afford or buy a home and are burdened by substantial student loans, this has resulted in them lagging behind other generations in regard to both building wealth and saving for retirement.

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Two studies released this year seem to confirm this. One study, conducted by the Federal Reserve Bank of St. Louis, found that a family headed by someone born in the 1980s remained 34% below a predicted level based on the wealth accumulated by earlier generations at the same age. This lack of wealth generation also manifests itself in the difficulty for Millennials to save for retirement as reflected in another study conducted by the National Institute on Retirement Security (NIRS), which found that 66% of working Millennials have nothing saved for retirement.

Can Millennials Recover? Yes, If They Plan Now

Research by the Center for Retirement Research at Boston College reflects that if Millennials retire later, around age of 70, most will be fine. But working longer does not guarantee a growing net worth or a successful retirement. You need to take the proper steps and focus on building your net worth first before focusing on retirement. Here are steps you should take.

1. Contribute to Your 401(k) Only Enough to Take Full Advantage of the Company Match

In the NIRS study, the primary reasons for the lack of retirement savings are that many Millennials either work part-time or lack having enough tenure in their current position to be able to participate in the company’s retirement plan. As the economy continues to improve, it is likely that more Millennials will be able to contribute to these plans, with the 401(k) being the most popular retirement vehicle offered by employers.

The question then is, how much should a Millennial contribute? The obvious answer is to contribute the maximum amount, which for 2018 is $18,500. But for many Millennials, this is not realistic — and it may not even be best. So how much should they really contribute?

First, if your company provides a matching contribution, your goal should be to contribute what you need to obtain the maximum matching amount possible. Once you reach this goal, should you contribute more money to your company’s 401(k) plan? Depending on whether you can take advantage of a Roth IRA, the answer could be no. If you can fund a Roth IRA, you should consider contributing to that plan first.

2. Think Roth IRA for Additional Savings and Withdrawal Flexibility

There’s a shortcoming to 401(k) plans: They do not provide much flexibility for withdrawals before retirement. Unless an exception applies, withdrawals before age 59½ result in a 10% penalty, which is in addition to the income taxes incurred. Because of this, it would be wiser to invest in a Roth IRA for its withdrawal flexibility.

A Roth IRA, in contrast to a traditional IRA or 401(k) plan, does not provide a current tax deduction. After-tax dollars are contributed to a Roth, so when withdrawals are made for retirement (after age 59½), they will generally not be taxable. Since these accounts are funded with after-tax dollars, you are allowed to pull out the money you contributed at any time without penalty or income taxes. The exception is that the withdrawal of any gains before age 59½ will likely result in a withdrawal penalty of 10%.

Roth IRAs can serve multiple purposes, including saving for retirement, purchasing a home, or an emergency fund for unexpected or unforeseen expenses. Of course, these funds should be used as a last resort, but life can be unpredictable, so it can be important to have access to funds that will not result in any additional penalties or taxes.

The above benefits — coupled with the fact that you are likely making less than what you will later in your career, meaning that you’d pay taxes at a lower rate — make this the best time for you to take advantage of a Roth. The loss of deductible contributions is less painful when you are in a low tax bracket, especially in comparison to later in your career.

If you meet certain income thresholds, you can contribute to a Roth IRA: If you are single and make under $120,000 ($189,000 for those married and filing jointly), you can contribute up to the maximum amount, which is $5,500 this year.

3. Fund an Emergency Plan for Unexpected Expenses

Withdrawing from a Roth should only be done as a last resort, so it is important to build up an emergency fund as well — especially if you have funds left over after contributing to a Roth.

An emergency fund is cash, or something else that is easily accessible, set aside to fund an unforeseen event, such as car repairs, travel due to family emergencies, health issues, etc. These funds should be available to use in these unforeseen events so that you can maintain your lifestyle without getting into debt. Without setting money aside, many will have to use high-interest credit cards or other unfavorable means to fund these events. This could very easily result in a having debt that will be difficult to pay off.

The general recommendation in the planning community is to save at least three months of expenses and if possible up to six months. Start small, with the goal to have an emergency fund of $500 to $1,000 first. Try saving $25 per paycheck until you reach the saving goal. As your income improves, try to have a fund that can support a month of expenses.

4. Finally, Focus on Building Your Net Worth

If you still have money to save, you will likely be better served in growing your net worth by investing these funds in either a taxable investment portfolio (outside of retirement accounts) or assets such as real estate.

Investing in the stock market is still the most affordable and easiest means, especially given online brokerage sites, for you to obtain capital appreciation that will help you grow your wealth. This is especially true given the power of compounding growth, which is illustrated by the chart below showing the growth of a $100 investment.

Growth of $100 Growing At:*

Swipe to scroll horizontally

*From The Motley Fool

Building your net worth should be your focus over just saving for retirement, because of the variety of life events still to come: buying a home, getting married, possible college or higher education, planning for future children, etc. Many other possible significant events will occur before you retire, so you need to plan accordingly. As your net worth grows, it will provide you more financial flexibility and when the time comes, can result in having enough funds for retirement.


The above is meant to be a general guideline and does not necessarily need to be followed in the exact order. But hopefully, it can help you build a game plan to help you grow your wealth, fund other future life events, avoid debt and ultimately provide enough funds for a happy and sustainable retirement.


This article was written by and presents the views of our contributing adviser, not the Kiplinger editorial staff. You can check adviser records with the SEC or with FINRA.

Daniel Fan, J.D., LL.M., CFP
Director of Wealth Planning, First Foundation Advisors

Daniel Fan serves as the Director of Wealth Planning for First Foundation Advisors. Mr. Fan is a Certified Financial Planner™ and holds his Juris Doctorate and Master's in taxation from Pepperdine University School of Law and Golden Gate University respectively. He earned his Bachelor's degree from the University of California, Los Angeles.