The Importance of Saving (Part II)
To contribute the maximum amount per year to the Roth IRA, our individual will need to save about 15.3% of her take-home pay through her 30s. While this might not seem like a "fun" way to "spend" your money, it will prove rewarding down the stretch. By the time our individual reaches 40, she'll already have $60,500 in contributions alone.
Just for fun, we can assume she allocated 70% of her portfolio to stocks and 30% to fixed-income. On average, we'll say the stocks returned 8% per year and the bonds returned 3%. While contributions have totaled more than $60,000, returns from our investment strategy have brought the total up to $90,246. Not too shabby.
While our investor continues to save 15% of her $43,200 take-home pay through her 40s, she now has over $115,500 in contributions alone. With the increase in age, our investor has shifted herasset allocation to 65% stocks and 35% bonds in an attempt to decrease risk. After contributions and returns, the total savings is now up to $255,811.
Now that our investor is in her 50s, things change slightly -- most notably, the annual contribution limit. When you hit 50, you can contribute $6,500 instead of the standard $5,500. This is known as a catch-up contribution. With our investor still saving 15% of their pay, she will contribute another $65,000 to her Roth IRA over the next decade, bringing the total amount of contributions to a robust $180,500.
Let's again assume in our example the investor shifts slightly away from stocks in favor of bonds. The asset allocation is now 60% stocks and 40% bonds. Assuming the 8% return rates from equities and 3% return from bonds, the total stock fund is worth just over half a million dollars, while his bond fund is now worth just north of $100,000.