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Building a plan for retirement may seem like the farthest thing from your mind while you're in your 20s. Still, if you're willing to start while you're that young, you'll build an incredible head start over your coworkers who waited until they were more "established" in their careers before starting.
The number one advantage you have in your 20s is your time. You could easily have 45 years or more ahead of you before you need to tap your retirement accounts to cover your costs of living. The money you're able to sock away now -- as small as it might seem today -- could grow to be a disproportionately significant part of your retirement plan.
How time helps you plan for retirement in your 20s Time matters so much for you because the money you invest compounds. The money you invest today in your 20s has that much longer to compound on your behalf. The table below shows how much you could end up with from a single, one-time $1,000 investment, depending on what rate of return you earn on your money and how long you can let it compound before you tap it:
There are no guarantees in the stock market, but over long periods of time, the market's returns have compounded on average near that 10% level. That means it's quite possible that every $1,000 you sock away today could be worth more than $72,000 by the time you need to tap it in retirement. If you simply max out your IRA this year with a $5,500 contribution, that single investment could potentially be as much as $400,000 of your nest egg when you tap it for retirement 45 years from now.
The time you have today is a gift that can do wonders for your future if you put it to use. If you don't make use of it, the unfortunate reality is that your money simply can't compound nearly as much. Additionally, if the market doesn't compound as quickly in the future as it has in the past, you'll be even more thankful for the nest egg you'll be able to build by starting early.
How can you make investing a reality in your 20s? The tough part about investing in your 20s is the fact that you're just starting out in your career. You may have a great education and strong skills, but your current or prospective employers will want to see a longer track record of sustained strong results before paying you a substantially larger salary.
Still, while your salary may not be as high now as it will likely be later in your career, your expenses are likely lower, too. Your health expenses are likely lower, you're unlikely to be covering your kids' college educations while you're in your 20s, and your parents are probably still living independently. In addition, if you're still willing to live like a broke college student, you can keep your base costs of living low, too, freeing up more of your precious limited income to invest.
Plus, you may very well get help investing, courtesy of your boss and Uncle Sam. If your boss offers a 401(k) match as part of your employee benefits, that's money your boss is willing to invest on your behalf for your retirement, if you're willing to kick in some on your own. A typical 401(k) match is 50% of your contribution up to a certain percentage of your salary -- frequently in the neighborhood of 6%. With that type of match, every $1,000 you're able to contribute up to the match limit will turn into $1,500 compounding on your behalf.
Uncle Sam helps in two ways. First, all money properly invested in qualifying retirement accounts like a 401(k) or IRA compounds tax deferred. That means you'll pay no taxes on capital gains or dividends on the money in those accounts as long as you keep it in the plan.
Second, qualifying plans come in either "Traditional" or "Roth" varieties. In the "Traditional" variety, money you sock away can be pre-tax -- meaning you won't pay income taxes on the money you contribute to the plan when you contribute it. In the "Roth" variety, you do pay taxes on the money you contribute, but you will likely be able to take it out of the plan completely tax free once you reach a traditional retirement age.
Get started now In your 20s, you've got time firmly on your side. The money you're able to put away today will give you a huge leg up over your coworkers who wait longer to start planning for their futures. Take advantage of that time by starting now, and when you reach the other end of your career, you'll be incredibly glad you did.
The article How to Plan for Retirement in Your 20s originally appeared on Fool.com.
Chuck Saletta has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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