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Contribute Early, Contribute Often

When saving for your retirement, it is better to start sooner, rather than later. To emphasize this further, we will take two extremes: an early investor, and a late investor.

Meet Jane and John. Both Jane and John have just graduated from college and are very excited about their futures. Both Jane and John have been informed about their employers' 401k plans.

John is very excited about getting into the workforce, and he is eager to start earning money. However, he thinks he is too young to worry about retirement. He decides that he will wait to start contributing to his 401k plan. Ten years into his employment, John decides to begin contributing to his 401k plan, and defers $,2000 a year to the plan for the next 20 years.

Jane is also very excited about getting into the workforce, and is also very eager to start earning money. Jane, however, would rather start investing while she has few responsibilities. Jane decides to contribute from her date of eligibility, $2,000 a year, for the next ten years.

So let's recap. John waited for ten years before he contributed. He contributed $2,000 a year for 20 years, for a total of $40,000. Jane began contributing immediately. She contributed $2,000 a years also, but only for ten years, for a total of $20,000.

Assuming that they each had returns of 8%, compounded annually, who would have more money after 30 years? Jane! Jane invested $20,000 into her 401k and stopped, letting it compound interest for 20 years or more. After the entire 30 years, Jane had $145,845 for retirement. John, however, contributed for twice as long, and contributed twice as much money, but he did not have time on his side. Even though John's 401k compounded, it did not have enough time to pick up steam. John had $98,845 to retire on.

While I would not consider either of these examples to be adequate for my retirement, it illustrates that starting earlier is definitely better. If you have fewer responsibilities, you can afford to contribute when you are young. As a matter of fact, can you afford not too?

Blogger savingadvice Says:

November 12, 2005 9:06 AM 

...and that is exactly why I've started saving at an early age!

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