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A regular savings account is not the best place to save for retirement.
The amount of money a person needs to retire depends on a host of personal factors, but according to a recent Charles Schwab survey of 1,000 401(k) participants, the average target number is $1.7 million.
And yet, just over half of the survey respondents contributed between 1% and 10% of their salary to their 401(k) last year, with the same share reporting that they haven't changed their deferral rate in the last two years.
The average individual contribution to 401(k)s among the survey respondents in 2018 was $8,788 - less than half the maximum contribution amount of $18,500, or $24,500 for folks over 50. However, it is worth noting that a full 23% of the respondents contributed the maximum amount to their account in 2018, the report said.
"The people we surveyed have a realistic target for retirement, but many likely aren't on track to get where they want to go," Steve Anderson, president of Schwab Retirement Plan Services, said in the report. What's more, one-quarter of the survey respondents have taken a loan from their 401(k), which is not recommended by experts unless the individual is in true financial hardship, as it comes with its serious tax consequences.
It's not that the survey respondents don't see the importance of saving for retirement. In fact, it appears to be top of mind for many. Nearly 80% said it takes precedence over saving to buy a house, while 38% said saving for a comfortable retirement is their top source of financial stress, according to the report.
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Unfortunately, too many savers appear to be approaching it the wrong way, the report found. For additional, non-401(k) retirement savings, survey respondents are more likely to utilize a run-of-the-mill savings account than an IRA, brokerage account, or health savings account (HSA).
Planning for retirement is more than just socking away dollar after dollar in a savings account. It's what you do with that money - where, when, and how you invest it - that makes all the difference.
Tax-advantaged accounts are crucial tools for retirement
While your money remains accessible in a traditional savings account when you need it, it can earn as little as 0.1% interest, while the stock market has historically returned an average of 7% annually, after inflation. Not only is investing in the stock market one of the best ways to grow your money, but investing through an IRA or health savings account is incredibly beneficial, if not simply for the tax breaks.
In 2019, you can contribute up to $6,000 to a Roth or traditional IRA. Because they're operated through brokerages and not an employer, IRAs offer even more investment options than a 401(k) and also allow your earnings to grow tax-free.
An HSA is a triple tax-free investment account - contributions are made pretax; earnings and interest on investments are tax-free; and withdrawals made for qualified medical expenses are tax-free. As such, it is one of the most powerful investment tools out here. HSAs aren't on the table for everyone, however. They're available only through high deductible health plans (HDHP), a type of health insurance plan with low monthly premiums and high out-of-pocket costs.
To be sure, maintaining a cash savings account is just as important as investing for retirement. However, a savings account should store money needed in the short term, for emergencies or a house down payment, while a tax-advantaged retirement account or taxable investment account will help optimize your money for the future.
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