What mental hurdles stop you from saving for retirement?

Dubai: When you start making money, you may often find it easy to put off saving for retirement by thinking you won’t stop earning for the next few decades at least. In reality, however, experts flag that it’s a norm to think that way regardless of how long you have until you finally retire.

“It’s common to rationalise and postpone saving for retirement, and it’s easy to feel like retirement is far into the future that we have time before we need to start preparing for it, so much so that we’d rather spend our savings now,” said Abu Dhabi-based financial planner Andrea Barbara.

“This thought process, known as ‘hyperbolic discounting’, occurs when we’re more inclined to make financial decisions that come with a more immediate reward instead of decisions that come with a future reward,” added Barbara, who coaches UAE residents on issues with saving and spending.

Psychological pitfall: ‘Hyperbolic discounting’ – Making decisions eyeing quick rewards

Putting it in a simpler way, Matthew Griffin, a UK-based behavioural economist presently working out of Dubai, agreed that the current practice is to have Dh5 right now instead of Dh10 a week from now – and that’s what the newer surveys conducted worldwide reveal as well.

“By prioritising spending over stocking away money for a future that’s decades away, spending power outpaces earning or buying power,” Griffin added. “Also, when factoring in global inflation, not only are we making less money, but that money has less purchasing power.

“Not only is your long-term savings depleting at a quicker pace, there is a wider repercussion on global economic growth as well. Personal savings are not just crucial for an individual's financial well-being, but when the rate of savings is high, economies worldwide grow faster.”

Do you spend now, keep saving for later? People mostly do: Surveys

According to Statista, an online market and consumer statistics database, between 2010 and up until a year ago, people under the age of 40 had saved much lesser than those in their 20s and 30s in 1983. And those in the first decade of earning are saving at a lower than recommended rate.

While financial planners advise setting aside at least 10 per cent of income for retirement, workers under the age of 34 are putting away just 5.5 per cent on average, as per the Statista survey. This data further highlights how saving for retirement doesn’t take priority until much later in life.

“While retirement may be in the distant future for the generation of workers in their 30s or 40s, saving as early as you can is still just as important because that money has the most time to realise the benefits of compounding interest,” added Barbara.

“It might seem backwards to worry about the last money you'll need before you think about meeting any other financial goals. But because of compounding interest (accumulated interest from previous periods will make a sum grow fast), starting early gives you more flexibility later on in life.”

Psychological pitfall: ‘Planning fallacy’ - Underestimating how long savings target will take

“How many times have you said you can get a project done in a pre-set amount of time only to realise that it took you longer (at times even twice your initial estimation) to complete it?” said Barbara.

“This is called the ‘planning fallacy’ and it’s all too common — especially when it comes to our finances. We tend to underestimate how long it will take to complete a future task [like planning for a retirement goal], despite knowing that previous similar tasks or financial targets have taken longer to complete than planned.|

Due to this psychological pitfall, Barbara observed that many people put off saving for retirement until their 30s or 40s thinking that they should be able to amass as much as they’ll need for their golden years in just two decades.

“However, once they factor in their current expenses and financial obligations, they find it’ll actually take a lot longer than they initially believed to build a comfortable retirement fund, and regret not starting sooner,” she added.

Not knowing how much is needed to retire affects planning: Surveys

Recent surveys also reveal that majority of us still underestimate how much money they will need to retire. Underestimating how much money you need for retirement and how long it will take you to save that money can be a formula for an underfunded retirement fund.

Let’s say you start saving at age 25 and put away Dh10,000 per year, but at 40, you stop saving. Now, if your friend starts saving at 35 and saves Dh10,000 a year for the next 30 years, until you both retire. At that point, you'll have more than your friend, despite having put away only half as much.

In fact, if you save just under Dh4,500 per year over a 45-year career, you could have over Dh1 million by the time you retire. And if you have the opportunity to invest in a retirement plan, your yearly investment could be as small as Dh2,200.

Here’s a guideline by multinational financial service provider Fidelity: “Aim to save at least 1x your salary by 30, 3x by 40, 6x by 50, 8x by 60, and 10x by 67. Factors that will impact your personal savings goal include the age you plan to retire and the lifestyle you hope to have in retirement.”

Bottom line?

While it can be very easy to live week-to-week and not really think about how your choices today might impact your future, the reality is, small changes in your spending behaviour today can make big differences down the track – and financial planners agree.

“Perhaps you'd rather spend your money on other things that are more fun than saving for retirement. But because compounding can enhance the value of your savings, the "pain" of each dirham you save now can be greatly outweighed by the flexibility you gain later,” added Barbara.

Griffin agrees that cutting back on your spending doesn’t necessarily mean giving up the little luxuries in life we enjoy. “Often there is a lower cost substitute which can replace some of our mindless spending behaviour,” he added.

“Behavioural science or understanding your financial habits can help us make small changes with big impact on our long-term savings goals, and creating tangible goals is a way of making retirement goals more ‘real’. Retirement investing won’t seem hard if you keep plans simple and achievable.”