Last month I wrote about the significance of timing in regards to when you start saving for retirement. Not surprisingly, because of the concept of compounding, the earlier you start saving the better. Makes sense, right? This month I wanted illustrate further the importance and significance of timing as it relates to the amount of money you will have saved for retirement. At what point during the year you make your contributions matters just as much as, if not more than, how much you a contributing. Let me explain further.
The IRS allows you to contribute to an IRA up to your tax filing date. Therefore, not counting extensions, you have up until April 15th, 2014 to make a 2013 contribution to your IRA. A lot of people will wait until April to make that contribution, however would it make sense to make that contribution as soon as possible? So instead of waiting until April 15th, 2014, you could have made that 2013 contribution in January of 2013.
Ed Slott, a nationally renowned IRA expert, hammers home the point that it makes sense to contribute to your IRA as early as possible in the year. Making a 2014 IRA or Roth IRA contribution in early January 2013 compared to late in the year equates to over a $50,000 difference over 30 years based on $5,500 yearly contribution and 8% rate of return. Over 40 years, it equates to over $100,000 – wow! If you are contributing more per year to a SEP, the difference is magnified more.
How do you end up with the additional $100,000? By making earlier contributions your IRA, it has more time to compound (16 months), which is amplified by the fact that it is compounding tax-deferred over many years.
According to a study by Vanguard, only 10% of the people contribute in January, the earliest month contributions can be made. There are some good reasons why people wait to contribute until it is close to their tax-filing deadline. At that point taxpayers know how much they will be able to contribute if they are contributing to SEP-IRAs, or if they will have low enough income to be able to deduct their contribution. But for some people the procrastination may be the result of investor laziness. This investor laziness is similar to not ensuring that you get the maximum employer match from your 401k or not seeking retirement advice until after you have stopped working.