How to Make Up Lost Time if You Got a Late Start Investing

1. Set a Goal

Setting a goal for your retirement savings will give you a clear picture of how much you'll need to invest. One rule of thumb is to have 10 times your income saved if you plan to retire at age 67. For example, if you currently make $42,000 per year, you would need to save $420,000 by age 67 according to this rule.

Of course, your savings goal for retirement will depend on your financial situation and your retirement plans. If you plan to live frugally in retirement, such as by downsizing to a smaller home and cutting back discretionary spending, you might aim to save eight times your pre-retirement income, rather than 10.

On the other hand, if you plan to increase your expenses by, for example, traveling more in retirement, it may be wise to aim for 12 times your pre-retirement income.

2. Use an Investment Calculator

A retirement calculator, such as the Investor.gov Savings Goal Calculator, can help you figure out how much you'll need to invest each month to hit your target.

For example, a 40-year-old who wishes to retire at 67 with $450,000 and has a $1,000 initial investment would need to invest $375 per month, according to the calculator. This assumes an 8.7% annual return, which is the average annual return historically for an investment account split evenly between stocks and bonds, according to data from investment firm Vanguard. You can experiment with various numbers to come up with a goal that makes sense for you. Keep in mind, however, that investment returns are never guaranteed.

3. Rethink Your Budget

Starting or rethinking your budget can help you make up for lost time investing, especially if you're struggling to find the extra cash to save each month. Once you've come up with a monthly amount you'd like to save to reach your retirement savings goal, comb through your budget to find extra cash. Don't have a budget? You can start one now by following our step-by-step guide to making a budget.

Looking at your cash flow—the income you receive compared with the expenses you pay each month—can help you find areas where you might be able to cut costs, such as by saving money at the grocery store, cutting back on takeout or canceling a streaming subscription. Determine how much you can afford to put toward retirement each month, and remember that certain retirement accounts allow you to save money pre-tax, giving you an extra bump toward your retirement goal.

4. Choose Your Investment Account

Retirement accounts like an employer-sponsored 401(k), solo 401(k) or traditional IRA are a great way to grow your money for retirement. Each offers tax-deferred contributions, allowing interest to compound pre-tax until you withdraw it in retirement.

If your employer offers to match your 401(k) contributions, always take full advantage of their match. Beyond that, you can fund your 401(k) and IRA up to the limit, which is $20,500 for 2022.

Because of their substantial tax benefits, your first order of business should generally be funding your 401(k) or traditional IRA. You can also consider investing in a Roth IRA. Like a traditional IRA, a Roth IRA is easy to open through a brokerage. However, unlike a traditional IRA, a Roth IRA is funded with post-tax dollars.

Roth IRAs have their own unique set of benefits, such as tax-free gains and more control over when you withdraw your money. But, generally speaking, a traditional IRA may save you more money in taxes than a Roth IRA if you expect your income tax bracket to decrease in retirement.

After you've funded your tax-advantaged retirement accounts, you might consider additional investment options, such as stocks. More on that below.

5. Automate Your Investments

Investing regularly and automatically may help you bridge the gap between where your savings are and where you'd like them to be by retirement.

Rather than investing after you've already covered expenses and made discretionary purchases each paycheck, automatically route a portion of each paycheck directly to your retirement account. In other words, pay yourself first.

6. Review Additional Investment Opportunities

If you've maximized your 401(k) or IRA contributions or are curious about other investment opportunities, there are a range of possibilities to explore with varying risk and potential payoffs, including:

• Certificate of deposit (CD): A CD is a short-term saving option with low risk and modest returns. Many savers use them for short-term savings goals, such as a holiday shopping budget or an upcoming home renovation.
• Mutual funds and index funds: Mutual funds and index funds are portfolios of securities such as stocks and bonds that allow you to invest in a diverse basket of assets. Many mutual funds are actively managed, meaning a fund manager chooses the securities that make up the fund. Index funds are mutual funds that invest passively by tracking the performance of a market index such as the S&P 500.
• Exchange-traded funds (ETFs): ETFs allow you to invest in a basket of securities, just like a mutual fund. But unlike mutual funds, ETF shares can be traded throughout the day like stocks. Most ETFs also track indexes, similar to an indexed mutual fund. Mutual funds and ETFs allow you to invest in the stock market while reducing the risk associated with investing in single company stocks.
• Individual stocks: Investing in individual stocks by buying shares in companies you think have a high potential for growth carries a good deal of both risk and potential for reward. Managing a portfolio of company stocks requires quite a bit of time and knowledge—and plenty of extra cash you can afford to lose—so consider working with a financial advisor to come up with an investment strategy that fits your needs. Experts often recommend that high-risk investments like individual stocks make up a low percentage of your portfolio assets.
• Real estate investment trusts (REITs): REITs allow you to invest in commercial real estate, such as multifamily rentals, office buildings, storage units and malls, without having to pony up large amounts of capital or actually buy and manage properties yourself.

7. Consider Short-Term vs. Long-Term Investments

Long-term investors often take a passive approach, holding an asset for multiple years or decades to take advantage of the market's gradual growth.

Short-term investments are assets bought and sold in one year or less. Some short-term investors hold investments for much less time. For instance, day traders buy and sell assets within a day to profit off market volatility, in a risky practice not well-suited for beginner investors.

While profits you earn from short-term assets are taxed as income, profits realized from long-term investments (those held for one year or longer in the IRS' eyes) are taxed more favorably in capital gains tax brackets of 0%, 15% and 20%, depending on your income. Since tax liability varies depending on your personal financial situation and can be somewhat complex, it's best to work with a tax professional to understand what you owe in any year you profit from an investment.

Be aware that short-term investing in the stock market requires in-depth market knowledge, time and capital. It's also inherently very risky. If you're approaching retirement, experts recommend avoiding risky investments. Instead, you can increase your savings by investing consistently in your 401(k) or IRA and leaving your money there until retirement.

8. Use Catch-Up Contributions

Adults ages 50 and older are eligible to contribute an additional $6,500 catch-up contribution to their 401(k) each year, raising your total maximum contribution to a 401(k) to $27,000 per year, or $2,250 per month.

While that monthly contribution amount isn't feasible for many savers, aim to contribute as much as you can. Contributing more could be the key to retiring with your goal amount.

For example, if you're 50 years old and haven't invested any money toward retirement yet, funding your 401(k) up to the maximum amount could mean retiring with $1 million in just 18 years, assuming an 8.7% annual return, thanks to the magic of compounded interest.

9. Consider Retiring Later

Spending more time in the workforce could put your retirement goal within reach if you're getting a late start investing.

For example, if you're 30 and want to retire at age 65 with $1 million in the bank and currently have $1,000 to invest upfront, you'd need to invest $406 every month for the next 35 years to reach your goal (assuming an 8.7% return). But if you decided to put off retirement an extra five years until age 70, you'd only need to invest $260 per month.

Apart from the benefits of allowing compounded interest extra years to work its magic, retiring later also means you may not need as much money to sustain your pre-retirement lifestyle. According to investment firm Fidelity, if you plan to retire at age 70, you'll need just eight times your pre-retirement income to maintain your current lifestyle, rather than 10 times your pre-retirement income to retire at age 67.

Of course, pushing your retirement back may not be a trade-off you're willing to make, but knowing your options can help you reach financial freedom in retirement.

Consistency Is Key

You can get on track investing for retirement by setting a goal, automating your investing and building a budget. You can also consider opening yourself up to creative solutions, such as retiring a few years later or downsizing in retirement. For individualized advice on reaching your financial goals, work with a financial planner.