How Young Lawyers Can Save for Retirement

Sophia Bera, CFP
Save small amounts each month in an emergency savings account to afford emergencies without getting further into debt.

Save small amounts each month in an emergency savings account to afford emergencies without getting further into debt.

filadendron/E+ via GettyImages

Based on brand new survey data, the ABA YLD has issued a landmark report on the current state of law student loan debt. Among the many findings, we learned that more than 75 percent of respondents had over $100,000 in student loan debt and almost 90 percent of respondents said their debt had a major impact on important life decisions. To learn more about the report’s findings and proposed solutions, watch our new webinar replay Understanding and Navigating the Student Debt Crisis. (Replay is free for ABA members. Login required.)

Young professionals have one big factor in their favor when it comes to saving for retirement: time. With compound interest, time allows your investments to grow. One complication that especially affects lawyers: many law firms offer a 401(k) but do not offer an employer match. Ouch! That means you do not get the benefit of “free money” that others with more traditional employer benefits get. How do you save for retirement? Contribute to that 401(k) anyway (and a Roth IRA if you qualify).

Why Contribute to a 401(k) without an Employer Match?

You May Get a Tax Break

You contribute pretax income to your 401(k), lowering taxable income every paycheck. The money in your 401(k) grows tax-free. You will owe income tax on 401(k) withdrawals. Ideally, your income tax bracket will be lower by retirement. In other words, you stash that money away while your income (and taxes) are high and use that money while your income (and taxes) are low. If you make six figures, aim to max out your 401(k) to reduce your tax bill.

You May Qualify for a Roth IRA

Many opt to contribute to both a 401(k) and a Roth IRA to have “tax diversification.” Unlike a 401(k), you contribute post-tax income to a Roth IRA and may not owe additional taxes when you withdraw money later. This allows you to withdraw money strategically in retirement to minimize your tax burden each year. Roth IRAs have separate income limits if you’re single versus if you’re married filing jointly. Your 401(k) contributions may bring your income down below Roth IRA limits, allowing you to contribute to a Roth IRA.

You May Contribute to a Roth 401(k)

If your income exceeds Roth IRA limits, you could potentially contribute to a Roth 401(k), if your employer offers one. This account is funded with after-tax dollars and grows tax-free like a Roth IRA. However, if you are in the 32 percent tax bracket or higher, then stick to the pre-tax 401(k) because you get a powerful tax deduction. If you are in the 24 percent tax bracket, consider allocating half of your contributions toward the Roth 401(k) and the other half to the pre-tax 401(k).

How to Balance Saving for Other Goals While Paying Off Law School Debt

Prioritize According to Your Interest Rates

If the interest rates on your loans are less than 5 percent, you will likely earn a higher rate of return on long-term investments (this is not a guarantee, but a rule of thumb). In that case, make minimum payments on your loans while contributing to a 401(k) and, if possible, a Roth IRA. You can apply extra money to the loan principal monthly to pay your debts faster. If the interest rates are above 5 percent, contribute less to your retirement savings right now while you pay more than your loans’ minimums.

Consider Refinancing Student Loans That Have the Highest Interest Rates

By reducing the interest rate and the repayment period, you could save thousands of dollars in interest over the life of the loans. You can pick and choose which student loans to refinance. For example, if you have two loans at 7.25 percent and the rest are under 5 percent, only refinance the two with the highest rates and move them to a 5-year or 7-year repayment plan to pay them off quickly.

Use Your Bonus to Pay Off Loans Faster

Use extra money (e.g., bonuses) to pay big chunks of your loans.

Debt Avalanche Method

Write down each of your student loans, remaining balances, and interest rates. Pay loan minimums but make extra payments on the loan with the highest interest rate. Once you pay that off, roll those extra payments into the loan with the second-highest rate, and so on. This method helps you stay organized by breaking down your debt repayment goals into smaller, more manageable steps.

Save for Emergencies

Save small amounts each month in an emergency savings account to afford emergencies without getting further into debt. Keep the money in a high-yield saving account separate from your checking account because: (1) the former has higher interest rates than checking accounts, so you earn money on your money, and (2) the money should be easily accessible if needed, but not so easy that you will spend it on non-emergencies. Save at least three months of your net pay in an emergency fund.

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Sophia Bera, CFP, is the founder of Gen Y Planning and was recently named one of the Top 10 Most Influential Financial Planners on Investopedia in 2019.