There comes a point in almost everyone’s life when they realise that they really should start saving money. For some people this happens relatively early on, while others can go many decades without putting money aside.
Regardless of when the realisation hits you, the reaction is almost always the same: “why didn’t I start doing this earlier?” The first thing to do is to stop feeling bad about yourself. You cannot change the past. But you can change the future. Here are the steps I think you need to take to grow your retirement savings.
Make a plan
If you want to retire at some point, you are going to have to think about how much money you will need to support yourself in your later years. Start by estimating the annual amount that you think you will need, then work backwards. For instance, say you are 40 years old, plan to retire by age 70 and reckon that you will need £50,000 a year — your current annual salary — to live comfortably.
Passive income stocks: our picks
Do you like the idea of dividend income?
The prospect of investing in a company just once, then sitting back and watching as it potentially pays a dividend out over and over?
If you’re excited by the thought of regular passive income payments, as well as the potential for significant growth on your initial investment…
Then we think you’ll want to see this report inside Motley Fool Share Advisor — ‘5 Essential Stocks For Passive Income Seekers’.
What’s more, today we’re giving away one of these stock picks, absolutely free!
Additionally, you hope to enjoy 20 years in retirement, which works out as a tidy £1m required. Note that we are not taking into account the State Pension, which amounts to £8,767 per year. Nor are we assuming that you are eligible for a private pension. This exercise purely concerns your own individual savings arrangements.
So, how does one go from zero to £1m in 30 years? Not by parking that money in a cash savings account, that’s for sure. If you save £12,000 every year for 30 years — 20% of your income — then you will need a 6% rate of return for the sum to compound to £1m by age 70.
In decades past, interest rates were high enough that you could rely on cash savings to compound at a healthy clip. These days, with the Bank of England’s current base rates as low as they are, you would be hard-pressed to find a bank willing to offer anything more than 1.5% (and even these are usually promotions that cap the amount you can pay in at a fairly small amount).
Get a Stocks and Shares ISA
The other option is to invest your money in the stock market using an Individual Savings Account (ISA). An ISA is a tax-free ‘wrapper’ that you can put your money into. You do not pay income or capital gains tax on income generated within a Stocks and Shares ISA, making it the perfect vehicle to take advantage of the power of compound interest.
The compound annual return of the FTSE 100 over the last 25 years was 6.4%, assuming reinvestment of all dividends. This means that by investing your savings in a Stocks and Share ISA you can achieve your retirement goals, even if you have been putting them off for the last 20 years.
Just make sure you are smart with your investment decisions and only buy stocks with secure dividends and at reasonable valuations.
