Should we start saving for retirement younger?

One of the outcomes from last week’s federal budget is that it will be more difficult to make large contributions to super immediately before we retire.  This is likely to present some challenges for many of us as we approach retirement.

It is very common in the last 10 or so years before retirement for clients to direct income that was previously being spent on the mortgage and the kids into Superannuation.  This presented taxation benefits and enabled clients to build enough wealth to provide for their retirement.  Reducing contribution caps $25,000 pa will limit this approach.

Most young people today have underestimated the effect this will have on them in the future, as $25,000 seems an awful lot to contribute to super.  This is certainly the case for almost all your working life, the exception being the period just before retirement when some of the biggest expenses are now significantly reduced.

So given the “catch up” strategy is somewhat limited with the new caps, what are the alternatives? We will still need to accrue the same level of wealth to provide for our retirement.

One option is getting in front of the game early.  I already mentioned that in the years immediately before retirement we generally have a much higher level of disposable income, the other time in life where this is the case is when we first start working.

When we first enter the workforce the last thing on our mind is retirement but it is also likely that we would not miss a small amount per week if it was salary sacrificed.  Even small contributions at a young age make an enormous difference at retirement due to the power of compound interest and the long investment horizon.

If a client was to salary sacrifice $1,000 pa (less than $20 a week before tax) into super for ten years from age 20, invested into a growth strategy, at age 65 they will have approximately $269,000 more than if they did not make the additional contributions.  Those calculations are based on an 8.5% return.  Although returns are not guaranteed and we are working with estimates only, it is clear that early contributions will make a huge difference at retirement.

At age 20, retirement seems a long way away, and it is, but you can never start planning too early. One of my favourite sayings is “If you want shade from a tree, the best time to plant it was 20 years ago, the next best time is now”.  Putting away a few dollars a week into superannuation at young age is the equivalent of planting the tree 20 years ago.  I know I wish I put a few dollars that I spent on having a good time into super before I had to worry about a mortgage and bills.

It is unlikely that many 20 years olds will make this decision without prompting, but I think it is worth us encouraging the young people in our lives to seriously consider putting a few dollars away while they can afford it.