While in her last year of college, I began to advise a young woman who was very interested in starting early on her retirement plan. Most young adults don’t spend much time thinking about retirement, but they should.
If at age 20, a person invested $100 per month in a retirement account that earned an average of 7 percent interest over the course of 45 years, that 65-year-old would have a retirement account worth $379,259.
Let’s say that individual gave little thought to retirement until she was married and had children, which is not uncommon. As a more experienced employee, she is making much more than she did at age 20, so she can afford to invest $200 a month for retirement. So, if we double the investment but cut the time in half, where would this investor end up at age 65?
A $2,400 annual ($200 per month) investment over 25 years with the same average growth rate of 7 percent would total only $162,014 by the time she reached 65 years of age. By starting 20 years earlier—even at half the annual investment—the individual who started her retirement account at age 20 has an account that more than double the value of an account started at age 40. That’s the magic of compound interest.
I advised this young woman to open a Roth IRA with an annual contribution of $5,000. This person is very disciplined and serious about retirement so she took my advice. She also contributed to her company’s 401 (k) account. Four years after graduating, she took a new job and rolled the 401 (k) into her IRA. I recommended Vanguard because the firm offers great products with the lowest fees in the industry.
Today, she has a Roth IRA worth over $50,000. She’s made annual investments of approximately $5,000. The account has averaged a 17 percent growth rate. Imagine how much it will be worth when she retires in 40 years!
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