Photo: Robert Trachtenberg
Suze Orman, author of The Money Class: How to Stand in Your Truth and Create the Future You Deserve answers your most-asked questions about putting away money, from how to pay for your kids' college education to how to secure your retirement.
Q. I am a 45-year-old single woman with no children. I make $155,000 a year, have $165,000 in savings and $125,000 in a 401(k), and owe nothing other than my mortgage (14 years left on a $240,000 loan at 3.5 percent). What's the best way to make my dream of retiring in ten years come true?
A. My advice is to modify your dream right now. You simply don't have enough set aside in retirement savings to stop working as soon as you'd like. Let's say the $125,000 that you have in your 401(k) grows at an annualized 6 percent rate and you manage to add $15,000 a year to it—that's just 10 percent of your salary—you could save about $430,000 over the next decade. I know that sounds like a lot, but those funds might have to last you for at least 30 years. And that's not because I'm suggesting you're going to be an old-age outlier; the average life expectancy for a 55-year-old woman today is 83.
In the first year of retirement, you should plan to withdraw no more than 4 percent of your total funds. (You can adjust that sum for inflation in subsequent years, but even that rate is pretty aggressive for someone planning to retire at such a young age.) Four percent of $430,000 is $17,200. But because a withdrawal from a traditional 401(k) is taxed as ordinary income, you might net $13,000. That's less than $1,100 a month, and I doubt that's enough for you to live on, even if you're frugal. So let's say we shift half your current savings into investments on the assumption that $82,500 is an adequate amount for your emergency fund; that's still not enough money for you to retire comfortably. I know you don't like hearing that you'll need to work until 67 or 70, but better to hear it now than to realize you've made a big mistake later.
If you save diligently over the next 17 years and withdrawing 4 percent a year (adjusted annually for inflation) generates enough cash for you, you may be able to retire early—at age 62. (Use the free retirement income calculator at troweprice.com/ric to analyze your options.) Even though you will be eligible for Social Security at that time, think seriously about delaying your benefits until at least 67, when your payout could be 30 percent higher. Consider working part-time—or better yet, full-time—for a few years to supplement your income until the checks arrive.
Q: I'm a 46-year-old single woman earning $34,000 a year. Sometimes I feel so anxious about having enough to retire on that it takes away from my enjoyment of life. I have $30,000 in mutual funds and IRAs (but no pension), and no debt apart from my mortgage, which will be paid off in about eight years. I've been unemployed twice due to layoffs, so I'd like to have access to my money. Assuming I can work for quite some time, roughly how much do I need to save? I live simply but don't want to end up eating cat food.
A: While I understand your concern, I have to say that you're doing an impressive job considering your relatively modest salary. Many women making twice as much as you are saddled with debt and a huge mortgage they'll be paying down well into retirement. Give yourself credit for being so good with your money.
The best news here is that you'll finish off your mortgage in your early 50s. That means you don't need to save nearly as much as someone who anticipates having to keep making mortgage payments after she stops working.
Once you pay off the house, I want you to keep making monthly payments—to yourself. Invest that same amount in a Roth IRA. If you follow a few simple rules, you'll be able to withdraw all the money in retirement without paying a penny of tax. When you reach the annual maximum contribution for the Roth, build up an emergency cash reserve. The more you put away, the better.
Because you've been so house smart, once you turn 62 you will be eligible for a reverse mortgage: If you find your own retirement savings aren't enough, a reverse mortgage allows a lender to pay you income (in a lump sum, a monthly advance, a line of credit, or a combination of all three) based on the value of your home. There's no risk of losing the property. I hope that hearing all this will help you enjoy your life more fully today.
Read More: How to make sure you pay off your mortgage in time for retirement
Q: I am a 24-year-old mother of two, and I'm getting a divorce. My salary is about $50,000 a year, and I receive no child support. I plan to return to school and will probably make only about $20,000 once I cut back my work hours. I now put 6 percent of my income into my 401(k), adding a percentage point per year. Should I keep putting money into my 401(k), despite my limited income? Or should I wait until I finish school?
A: I wish I could bottle up your spirit and share it with the world. After reading your first three sentences, I was sure you would ask how you could make it as a single parent on one income that is dropping 60 percent. But instead you're focused on building security. That tenacity tells me you can do anything you set your mind to.
But you need to be realistic. On $20,000 a year, you will already be stretched thin. So please don't shortchange basic needs to keep saving for retirement while you are in school. Look at school as a big part of your financial plan: By upgrading your skills, you give a boost to your future earning power. When you're back working full-time, you can refocus on retirement investing.
But if you seriously think you can save for retirement and support your family while you're in school, here's my strategy: As long as you have a large emergency savings fund that can cover eight months of living expenses, keep investing in a 401(k) if you get a company match. Maybe it can't be 6 percent of your salary next year (that would be $1,200 of $20,000), but even at half that, you would benefit from the company match.
If you don't have an emergency savings fund, or your employer doesn't offer a matching contribution, skip the 401(k) while in school and invest in a Roth IRA . It has no tax or penalty if you dip into your contributions to cover an emergency. Only your Roth earnings would be hit with a tax, plus a 10 percent penalty for an early withdrawal. So your Roth could do double duty: When things go well, it serves as a retirement account; in times of trouble, you can pull out your Roth contributions without tax or penalty. Any money you invest in a Roth should go into low-risk investments, such as a money market fund, CDs, or short-term Treasury bills. Once you're out of school, you can move your investments to stock exchange-traded funds or mutual funds; over the long term, stocks will help you earn inflation-beating gains. Over the short term, they are too volatile to use for a quasi-emergency fund. Good luck!
Read More: The way to make the most of your 401k
Next: Protecting what you save
Saving for Retirement
Q. I am a 45-year-old single woman with no children. I make $155,000 a year, have $165,000 in savings and $125,000 in a 401(k), and owe nothing other than my mortgage (14 years left on a $240,000 loan at 3.5 percent). What's the best way to make my dream of retiring in ten years come true?
A. My advice is to modify your dream right now. You simply don't have enough set aside in retirement savings to stop working as soon as you'd like. Let's say the $125,000 that you have in your 401(k) grows at an annualized 6 percent rate and you manage to add $15,000 a year to it—that's just 10 percent of your salary—you could save about $430,000 over the next decade. I know that sounds like a lot, but those funds might have to last you for at least 30 years. And that's not because I'm suggesting you're going to be an old-age outlier; the average life expectancy for a 55-year-old woman today is 83.
In the first year of retirement, you should plan to withdraw no more than 4 percent of your total funds. (You can adjust that sum for inflation in subsequent years, but even that rate is pretty aggressive for someone planning to retire at such a young age.) Four percent of $430,000 is $17,200. But because a withdrawal from a traditional 401(k) is taxed as ordinary income, you might net $13,000. That's less than $1,100 a month, and I doubt that's enough for you to live on, even if you're frugal. So let's say we shift half your current savings into investments on the assumption that $82,500 is an adequate amount for your emergency fund; that's still not enough money for you to retire comfortably. I know you don't like hearing that you'll need to work until 67 or 70, but better to hear it now than to realize you've made a big mistake later.
If you save diligently over the next 17 years and withdrawing 4 percent a year (adjusted annually for inflation) generates enough cash for you, you may be able to retire early—at age 62. (Use the free retirement income calculator at troweprice.com/ric to analyze your options.) Even though you will be eligible for Social Security at that time, think seriously about delaying your benefits until at least 67, when your payout could be 30 percent higher. Consider working part-time—or better yet, full-time—for a few years to supplement your income until the checks arrive.
Q: I'm a 46-year-old single woman earning $34,000 a year. Sometimes I feel so anxious about having enough to retire on that it takes away from my enjoyment of life. I have $30,000 in mutual funds and IRAs (but no pension), and no debt apart from my mortgage, which will be paid off in about eight years. I've been unemployed twice due to layoffs, so I'd like to have access to my money. Assuming I can work for quite some time, roughly how much do I need to save? I live simply but don't want to end up eating cat food.
A: While I understand your concern, I have to say that you're doing an impressive job considering your relatively modest salary. Many women making twice as much as you are saddled with debt and a huge mortgage they'll be paying down well into retirement. Give yourself credit for being so good with your money.
The best news here is that you'll finish off your mortgage in your early 50s. That means you don't need to save nearly as much as someone who anticipates having to keep making mortgage payments after she stops working.
Once you pay off the house, I want you to keep making monthly payments—to yourself. Invest that same amount in a Roth IRA. If you follow a few simple rules, you'll be able to withdraw all the money in retirement without paying a penny of tax. When you reach the annual maximum contribution for the Roth, build up an emergency cash reserve. The more you put away, the better.
Because you've been so house smart, once you turn 62 you will be eligible for a reverse mortgage: If you find your own retirement savings aren't enough, a reverse mortgage allows a lender to pay you income (in a lump sum, a monthly advance, a line of credit, or a combination of all three) based on the value of your home. There's no risk of losing the property. I hope that hearing all this will help you enjoy your life more fully today.
Read More: How to make sure you pay off your mortgage in time for retirement
Q: I am a 24-year-old mother of two, and I'm getting a divorce. My salary is about $50,000 a year, and I receive no child support. I plan to return to school and will probably make only about $20,000 once I cut back my work hours. I now put 6 percent of my income into my 401(k), adding a percentage point per year. Should I keep putting money into my 401(k), despite my limited income? Or should I wait until I finish school?
A: I wish I could bottle up your spirit and share it with the world. After reading your first three sentences, I was sure you would ask how you could make it as a single parent on one income that is dropping 60 percent. But instead you're focused on building security. That tenacity tells me you can do anything you set your mind to.
But you need to be realistic. On $20,000 a year, you will already be stretched thin. So please don't shortchange basic needs to keep saving for retirement while you are in school. Look at school as a big part of your financial plan: By upgrading your skills, you give a boost to your future earning power. When you're back working full-time, you can refocus on retirement investing.
But if you seriously think you can save for retirement and support your family while you're in school, here's my strategy: As long as you have a large emergency savings fund that can cover eight months of living expenses, keep investing in a 401(k) if you get a company match. Maybe it can't be 6 percent of your salary next year (that would be $1,200 of $20,000), but even at half that, you would benefit from the company match.
If you don't have an emergency savings fund, or your employer doesn't offer a matching contribution, skip the 401(k) while in school and invest in a Roth IRA . It has no tax or penalty if you dip into your contributions to cover an emergency. Only your Roth earnings would be hit with a tax, plus a 10 percent penalty for an early withdrawal. So your Roth could do double duty: When things go well, it serves as a retirement account; in times of trouble, you can pull out your Roth contributions without tax or penalty. Any money you invest in a Roth should go into low-risk investments, such as a money market fund, CDs, or short-term Treasury bills. Once you're out of school, you can move your investments to stock exchange-traded funds or mutual funds; over the long term, stocks will help you earn inflation-beating gains. Over the short term, they are too volatile to use for a quasi-emergency fund. Good luck!
Read More: The way to make the most of your 401k
Next: Protecting what you save
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