The saving secret for women? Start young

Editor's note: Join columnist MP Dunleavey and a group of women as they seek to strip away the myths around money, liberate themselves from debt and find financial sanity. Follow the continuing quest of the Women in Red every other Wednesday in Dunleavey's column on MSN Money.

I learned a couple of things as I was helping three young members of the Women in Red -- Lyndsey, Stephanie and Jill -- figure out their retirement plans.

First, I realized that my own retirement plan would be in a lot better shape if I'd started saving in my late 20s or even early 30s. And second, that although it pays to get an early start, there are still some traps to avoid.

• Temptation: In her experience, says Dee Lee, a financial planner and author of "Women and Money: Your Personal Finance Guide" and "Work Less, Live More: The New Way to Retire Early," young women are more likely than men to tap their retirement funds for major life changes, like buying a home or decorating the baby's room. "Men don't do that," she says. Sporadic savings: Women have more of a tendency to cycle in and out of the workplace, which can stall their savings progress. Longer life expectancies: Women in their 20s today may be looking at life expectancies close to 100.

All of which makes it essential that these three save as much for retirement as they can -- ratcheting up to 15% of their gross income, Dee recommends -- while also funding both short- and long-term savings to ease the temptation to raid the piggybank.

Lyndsey: The reluctant saver

Although she doubled her 401(k) contribution from 2% to 4%, would it kill her to throw in the last 2% to get the full match her company offers?

You might think so, the way she's been dragging her heels. Sharon Rich, a financial planner and founder of Womoney, a financial-education Web site for women, thinks Lyndsey's investment portfolio could use some tweaking, but that her main hurdle is saving more.

* Based on 4% annual drawdown and not including Social Security.

Lyndsey is on track to have saved about $575,000 by the time she's 70, which would give her an income stream of about $23,000 a year in today's dollars, not including Social Security, if she lives to age 100.

If she ramps up her savings to 15% in the coming year or two, and her income rises by 10% (another benefit of being young is that your paycheck is likely to grow), Lyndsey could save about $1.1 million, which would yield a more ample $44,000 annually.

"She really needs to get that full match -- it's free money," Rich points out. "And she needs to think about contributing 15%. Otherwise she's going to cause herself to have to work a lot longer and with a restricted quality of life."

The debt issue

I told Rich that Lyndsey is well aware that her spending habits have gotten her into this hole, but she keeps using her credit cards anyway. Rich, sounding stern, then said that Lyndsey might need to use the dreaded Envelope System. Here's how it works:

• You track your income and expenses, using a spreadsheet or notebook or (hello, people!) financial software. You set aside money for retirement, long-term savings and debt payments. The rest you distribute as cash into little envelopes for lunch, dining out, entertainment, etc.

"If the money is there, she can spend it," says Rich. "When it's gone, it's gone. It's called the no-brainer approach."

Once the debt is paid off, Rich wouldn't use that cash to supplement the 401(k). She'd have Lyndsey start a serious savings account for the expenses she will soon want to cover: a down payment on a home, a car, etc.

Investment strategy

Her main criticism was being invested in the Fidelity Freedom 2040 (FFFFX, news, msgs) fund (which is a popular one with this group, and, no, we are not sponsored by Fidelity) and in the Dodge & Cox Stock (DODGX, news, msgs) large-cap value fund, which gave her too much exposure to giant-company stocks.

To give Lyndsey more mid-cap exposure, Rich recommends putting $2,500 into the Marsico 21st Century (MXXIX, news, msgs). "She should be able to buy that through Fidelity without a transaction fee."

Jill: High earnings, no savings

Although she earns about $90,000 and has a net worth of more than a quarter-million dollars, her retirement saving has ground almost to a halt in recent years.

Only because I stood outside her window at night, playing her old E.F. Hutton commercials about financial security, did she finally throw a paltry $3,000 into her IRA by the deadline.

That wasn't the maximum she could have contributed. But, she says, "that was all the cash I had."

* Based on 4% annual drawdown and not including Social Security or home equity.

Needless to say, yours truly -- who didn't start saving for retirement until two minutes ago -- can hardly throw stones at Jill's contributions.

But it is, well, odd that someone with zero debt and such an ample salary -- even for a New Yorker -- wouldn't set aside money on a regular basis and save the maximum allowable amount.

Continued: No financial-apathy disease

At the moment, Jill is on track to end up with a nest egg of about $450,000 at age 70, which will provide annual income of about $18,000.

"I have so many clients like this," exclaimed Galia Gichon, MBA, a former investment researcher who has started a financial-consulting business in New York called Down-to-Earth Finance. "They have really good salaries -- and no savings."

I was glad to hear Jill isn't suffering from some rare form of financial apathy for which there is no cure.

True, her current employer doesn't offer a retirement plan, so Jill is on her own. No matches, no incentives, no one to process the forms for her.

Gichon acknowledges that the lack of these conveniences makes it harder to save. So she suggests the following:

• Get in the habit of saving. "Start with a small amount, like $100 a month," says Gichon. When Jill gets her statements, Gichon's theory goes, she'll be impressed by how quickly the money accumulates -- and be inspired to save more. Dangle a carrot. In addition to retirement, Jill should focus on other reasons to stash some cash, like being able to take a terrific trip or buy a new sofa or a car.

I also asked Gichon to address the fantasy that stops Jill from saving: that she can use the equity in her apartment -- about $225,000 -- to fund other real-estate investments and retire on those profits.

Gichon is a fan of real estate, as well, but she points out that this approach violates the No. 1 rule of portfolio theory: diversification.

First, you don't want all your eggs in the real-estate basket, Gichon says. "Second, any decently run real-estate portfolio has cash reserves."

Because Jill doesn't have consumer debt, Gichon is actually optimistic that in a few years she can put herself in a new savings bracket.

Assuming that her income rises by about 10% in the next couple of years to $100,000 or so (which is likely in her field) -- and she slowly ramps up her savings to the desired 15%, Jill will save about $1.5 million by age 70, which would boost her annual retirement income to about $60,000, not counting Social Security.

Stephanie: Working hard, saving hard

Stephanie's main problem, says Gichon, is that she has two nearly identical funds -- Fidelity Freedom 2040 and the Fidelity Freedom 2030 (FFFEX, news, msgs) fund -- and twice as much paperwork to deal with.

 Stephanie's finances

	Current	Target
Annual salary	$50,000	$55,000
Annual savings	$3,450	$8,250
Savings to date	$9,378	N/A
Consumer debt	$9,629	$0
Student loan debt	$10,850	$0
Projected retirement savings	$550,000	$1,000,000
Retirement income*	$22,000	$40,000

* Based on 4% annual drawdown and not including Social Security.

Gichon recommends that Stephanie simplify her life and roll over her IRA into her current 401(k) account, "then figure out when she wants to retire -- in 2040 or 2030."

Also, Gichon points out, it's not terribly motivating to see one account with $7,935 and another with $1,443. "It's more empowering to get a statement with over $9,000, and you're more likely to keep saving."

Stephanie's portfolio

Fund	Amount	Change
Fidelity Freedom 2040 (FFFFX, news, msgs)	$7,935	Consolidate
Fidelity Freedom 2030 (FFFEX, news, msgs)	$1,443

The main thing for Stephanie, who is married and already knows that she and her husband would like to buy a home and have a child, is to work harder to reach the short- and long-term savings goals detailed in our bible, the 60% Solution.All the planners agreed that it can be hard for young women to foresee the future and anticipate how essential these savings will be some day -- given the inevitable demands of family, our lengthening lifespans and the giant question mark that is Social Security.

All the more reason to take even the smallest steps now toward these goals.

Updated March 28, 2008