Retirement quiz: Test your retirement knowledge

One day you’ll likely want to close the book on your career and start a new chapter of your life, but do you know how to plan for retirement?

The majority of working Americans say they are behind on their retirement savings goals, according to a Bankrate survey. If you don’t know how to plan for retirement, you could find yourself in the same position.

A financially secure retirement might feel like a lofty goal, but it’s totally within reach if you educate yourself on a few fundamental retirement savings concepts.

It’s time to take the first step toward confident retirement planning. Ryan Inman, a financial planner, and Andy Wang, managing partner at an investment management firm, are here to help. Below, they share the concepts that you need to master if you’re wondering how to learn about retirement planning.

But first: Test your knowledge with our retirement quiz. When you’re done, the experts’ guidance on how to plan for retirement can help you fill in any gaps to ace the quiz—and your retirement.

Retirement quiz: What do you know about retirement?

Harnessing the power of compound interest

Compound interest has been called the eighth wonder of the world. Its surprising ability to grow wealth can feel like a miracle, but it’s actually just good old-fashioned math.

“Compounding is the key to most great investors’ success,” Wang says. That’s because as you earn interest on your money, your money grows. He points out that over time, you earn interest not just on your initial deposit but also on the interest that accumulates.

This same principle applies to stock investing where constant reinvestment of capital gains produces a compounding effect so you earn gains on your gains, he adds.

Because the interest you earn is based on an ever-growing amount of money, your rate of wealth accumulation accelerates as the years go by.

How compound interest works: An example

An example can help when you’re learning about retirement planning, especially when math is involved.

Let’s say you put $10,000 into a diversified 60/40 mix of equities and fixed income that has an average annual return of 6% within your IRA. This is how compound interest would fuel your money’s growth over the years:

• Year 1: You would make 6% on the $10,000, which is $600.
• Year 2: You would make 6% on your money again, but this time it would be on a balance of $10,600. As a result, you’d add $636 to your account.
• Year 3: You would make 6% on $11,236, or $674.16.
• Year 10: You would have $17,908.48 in your account thanks to the power of compounding.

You can play with the numbers in a compound interest calculator to see the phenomenon yourself.

Compound interest is fundamental to how you plan for retirement because it yields bigger results over longer periods of time—and saving for retirement is all about the long term.

“The longer your money is invested, the more compound interest grows,” Inman says.

As a result, he says one of the biggest retirement savings mistakes you can make is to put off saving for retirement—because it prevents you from harnessing the impressive power of compound interest.

Understanding your tax-advantaged retirement options

When saving for retirement, Inman and Wang recommend that you make use of any available tax-advantaged accounts (in other words, accounts that save you money on taxes).

Some savers have access to a 401(k) or other employer-sponsored retirement accounts through their jobs. Every American who has earned income can contribute to an individual retirement account, or IRA.

Let’s take a closer look at each of these tax-advantaged retirement options to help you understand how to plan for retirement.

The 401(k) retirement plan

The most common employer-sponsored plan is the 401(k), which allows employees to put a certain amount of each paycheck toward retirement. “The 401(k) is one of the best options you have to save for retirement,” Wang says.

One of the reasons it’s such a great option, he says, is that contributing to a 401(k) can ease your tax bill each year.

“The money you contribute doesn’t count toward your gross income for the year, and that lowers your taxable income as a result,” he explains. “For example, let’s say you make $25,000 per year and you contribute $2,000 into your 401(k). As far as the IRS is concerned, you made $23,000 and you’ll be taxed on the $23,000.”

In addition to lowering your tax bill, your 401(k) is growing your retirement savings thanks to the power of compound interest.

401(k) match

Sometimes, employers will also offer what’s known as a 401(k) match, which means they’ll match whatever you contribute to your retirement savings up to a certain amount.

For example, Inman says that if your employer offers a 3% match and you’re contributing at least 3% of your salary to your 401(k), then your employer will contribute an additional amount equal to 3% of your salary.

If your employer offers a 401(k) match and you’re not enrolled, “You’re not only missing out on the tax benefits of a 401(k), but you’re leaving free money on the table,” Inman says.

Vesting periods

How to learn about retirement planning means understanding your vesting period. Inman notes that some companies have vesting periods, which means you won’t receive the full 401(k) match until you satisfy a particular length of employment.

Maximum contributions

The maximum contribution is the total amount you’re allowed to contribute to your 401(k) each year. This limit can change year to year according to the latest tax laws. In the 2024 tax year, for example, you can contribute a maximum of $23,000 to your 401(k) account, the IRS says. If you’re over 50, you can take advantage of catch-up contributions—up to an additional $7,500 per year.

The individual retirement account (IRA)

Another popular retirement account is the IRA. According to Inman, there are two main types of IRAs, each with a different tax advantage.

Traditional IRA

Generally speaking, Inman says, a Traditional IRA allows you to deduct your contributions from your taxes now, but you’ll need to pay taxes on the money you withdraw in retirement. You can withdraw your contributions and earnings without IRS penalty at age 59½.

Roth IRA

The other type of IRA is the Roth IRA. Inman notes that contributions to a Roth IRA can’t be deducted from your taxes now, but when you withdraw your earnings in retirement (at age 59½ or later, to avoid a penalty), you do so tax-free. Because you pay taxes on your contributions, you can withdraw those from your Roth IRA anytime.

“Some earners’ income is too high to qualify for a Roth IRA,” Inman says. (In 2024, the income limit is $161,000 for individuals and $240,000 for married couples filing jointly, according to the IRS.)

Unsure of which type of IRA to choose? Dive into all the differences between a Roth IRA and a Traditional IRA. Check the latest IRS guidance on income and contribution limits before selecting the best option for you.

Automating your retirement savings

If you find yourself thinking about how to plan for retirement but not actually doing the regular saving that you need to, then automating your retirement savings might be for you.

Inman and Wang note that most 401(k) plans have automation features: Once you opt in and configure your preferences, your plan will deduct a certain dollar amount or percentage out of every paycheck and invest it in the funds you pre-selected.

There are even mobile apps that have emerged to make it easier for people to automate their retirement savings than ever before. They allow savers to set up automatic deposits from their checking or savings accounts into a retirement savings fund according to their risk tolerance and goals.

“Technology’s come a long way in helping us automate our retirement savings,” Inman says.

When considering how to plan for retirement, automating your retirement savings has two key benefits:

1. Automation removes emotion from investing

The fact is, it’s not always a pleasant experience to move money from your checking account into your retirement savings. Wang notes that when you’re automating your savings, “you won’t even miss that money, but it can grow to a significant amount over time.”

Because of this out-of-sight-out-of-mind phenomenon, Inman suggests increasing your 401(k) contribution amounts whenever you get a raise at work.

2. Automation helps you take advantage of dollar-cost averaging

You might have noticed that the stock market can be up one day and down the next. These unpredictable swings pose the risk that you could “buy high” right before the prices swing lower.

Inman points out that when you’re automating your savings, you’re investing the same amount of money at regular intervals. So if the market is up, your retirement savings go up, but you’re buying at higher prices. If the market goes down, your savings go down, but you’re also buying at lower prices.

Over time, your costs average out, and this is what is known as dollar-cost averaging. “Automation is allowing us to dollar-cost average without us even knowing that we’re doing it,” Inman says.

Estimating how much money you’ll need in retirement

You could use every savvy retirement strategy in the book, but how do you know how much you should save before you can retire?

“Conventional wisdom says that you should expect to need 70% to 90% of your annual pre-retirement income in retirement,” Wang says. For example, he says that a person who earns an average of $100,000 per year before retirement should expect to need $70,000 to $90,000 per year in retirement.

The 4% rule

Another frequently used rule of thumb when learning about retirement planning is known as the 4% rule, Wang says. The idea is that if you can withdraw no more than 4% each year from your savings in retirement (adjusting for inflation and taxes along the way), then “you should have a very high probability of not outliving your money during a 30-year retirement,” he says.

If our eventual retiree will need to withdraw $80,000 a year, that annual pre-tax income needs to represent no more than 4% of their retirement savings. Because 4% is the same as 1/25, they would need to multiply $80,000 by 25 to arrive at a target retirement savings goal of $2,000,000.

Put your knowledge to work toward your retirement

By taking this retirement quiz and studying new retirement concepts, you’ve taken the first steps toward how to learn about retirement planning.

Now, it’s time to make the moves that your future self will thank you for. See how Discover can empower you to confidently follow your retirement plan.

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*The article and information provided herein are for informational purposes only and are not intended as a substitute for professional advice. Please consult your tax advisor with respect to information contained in this article and how it relates to you.