Congratulations, you recently graduated with a degree after four years of hard work. Hopefully you’ve landed a good job and are settling into your life in Corporate America. You probably have many dreams you still plan on reaching in your life, one of them might be becoming a millionaire.
Even if being a millionaire isn’t a dream, I bet being financially secure is. For the purposes of this post, we will having being a millionaire and being financially secure mean the same thing. After all, to be financially secure requires having a large sum of money for the most part. So how do you go about achieving this goal? It’s actually rather easy. I’ve broken it down into two basic steps below. Let’s get started.
Contribute to Your 401(k) Plan
The moment you are eligible to contribute to your 401(k) plan at work, do so. The contributions you make will grow tax-deferred until you withdraw the money in retirement. Yes your take home pay will be a little lower, but you offset that with paying fewer taxes since your 401(k) contribution is taken out of your pay before taxes are applied. I highly suggest you start out contributing 10% of your paycheck.
Let’s assume that you are starting out at your job at age 23 earning $40,000 per year. Without taking into account annual raises or an employer match, what does your 10%, or $4,000 annual contribution grow to by the time you are 65? See the chart below.
At a 6% annual return, which is conservative, you are looking at a balance of $750,000. If we bump up the annual return to 8% which is more average, you wind up with $1.3 million. Remember that these don’t take into account raises or employer matches, so your actual numbers will be higher.
Contribute to a Roth IRA
The next thing you need to do is open up a Roth IRA. You cannot do this through your work, you need to do this on your own. A good place to start is Vanguard since they have very low fee mutual funds. The money you contribute to your Roth IRA grows tax free. You don’t get a tax break by investing in a Roth, but you do get tax free growth. (Note that there are income limits for eligible Roth contributions. But there is also a perfectly legal trick that many people use to still fund a Roth if their income is too high.)
Let’s assume you simply save $5,000 per year into your Roth IRA. Again, we will be conservative and assume a growth rate of 6%. At age 65, you are looking at an account balance of $940,000. If we change the rate of return to 8%, you have $1.6 million.
Putting It All Together
By using both of these types of accounts, you save $9,000 per year and wind up with $2.9 million at age 65 with an 8% growth rate. Of course, you will want to save money in taxable accounts too so that you have access to the money before you are eligible to withdraw the money in your retirement accounts tax free.
There are some caveats to this plan. The first is that you have to stay invested in the market. The market will not always return 8% every single year. Some years it will return more, while other years you will lose money. But when averaged out, you can expect 8% annually. To earn this though you have to stay invested at all times. Jumping in and out of the stock market is going to destroy your returns and you will end up nowhere near the numbers I presented.
If you can withstand the short term volatility of the stock market and consistently invest in it year after year, you will reach your goal of being financially secure or becoming a millionaire. Good luck!