The 401k is one of the most woefully light retirement instruments ever invented. The worst is the IRA which limits you to contributing only $5,500 only for individuals making under $60,000 a year and married couples making under $116,000 a year. Meanwhile, you have to make less than $114,000 a year as a single or $181,000 as a married couple for the privilege of contributing after tax dollars to a Roth IRA, which I do not recommend before maxing out your 401k.
Give me a pension that pays 70% of my last year’s salary for the rest of my life over a 401(k) any time! With the government only allowing individuals to contribute $17,500 a year in pre-tax income into their 401ks in 2014, once again, our politicians fail us with their regulations.
The average 401k balance as of January 2014 is around $99,000 thanks to an incredible 30% rise in the S&P 500 in 2013. Let’s add another 13% increase for 2015 given the S&P 500’s performance and we’re at roughly $112,500. Even so, $112,500 is incredibly low given the median age of an American is 36.5. As an educated reader who is logical and believes saving for retirement is a must, I’ve proposed a table that shows how much each person should have saved in their 401ks at age 25, 30, 35, 40, 45, 50, 55, 60, and 65.
We stop at 65 because you are allowed to start withdrawing penalty free from your 401k at age 59 1/2. Meanwhile, I pray to goodness you don’t have to work much past 65 because you’ve had 40 years to save and investment already!
HOW MUCH YOU SHOULD HAVE IN YOUR 401K AT DIFFERENT AGES
The assumptions for the below chart are as follows:
* For the first full year out of school, you only contribute $8,000 to your 401k.
* After the first year, one maximizes their contribution every year to their 401k plan without failure. We already agree that $17,500 a year in contribution is much too little, therefore contributing less is illogical. For 2015, the maximum contribution is $18,000.
* Average starting working age is 22. But you can follow the number of years working as a different guideline if you graduate later or earlier.
* $17,500 is used as the conservative base case maximum contribution amount for one’s entire working life. Hopefully the government will increase the max contribution amount over time.
* No after tax income contribution, although more power to you if you have the disposable income to do so.
* The low end column assumes $17,500 X the number of years worked after contribution $8,000 the first year. There is no company match or growth.
* The higher end column will assume $17,500 X the number of years worked X a 5%-10% constant rate of return. There is no company match in the high end either.
* Excludes any company match or profit sharing completely. The idea is that by excluding company match and profit sharing, that will more or less make up for the years in which one loses money in the stock or bond market. Furthermore, each company’s 401(k) match program is different.
* The Lower and Higher Amounts encapsulate at least 60% of all 401k levels for those who contribute the maximum amounts. There will be those with less, and those which much, MUCH greater balances thanks to higher returns.
* You are logical and not a knucklehead. Just by searching this topic, you are taking ownership of your retirement and are thinking ahead with an action plan.
FINANCIAL SAMURAI 401K RETIREMENT SAVINGS GUIDELINE
From the results, we can conclude that even after 43 years of consistent saving, you only have around $743,000 to $3,500,000 in your 401k. Let’s say you live for 20 years after retiring at 65, you only get to live on $37,150 – $175,000. If goodness forbid you live to age 95, then you can only live off of $24,766 – $116,600 a year!
We know from simple economics that thanks to inflation, a dollar today will not go as far as a dollar 40 years from now. Private school tuition will probably cost over $100,000 a year in 20 years, so who knows what medical, food, shelter and energy costs will cost then. One thing is for sure, prices will be much higher.
You should check out my article on “How To Better Manage Your 401K For Retirement Success” where I highlight three different scenarios you should run to see if you’ll make it. Fidelity came out on 2/14/2013 highlighting the average of their 12 million 401(k) plan participants is up 12% to $77,300. For workers 55 years of age or older, the average balance is $143,300. These are terrible numbers.
TRUST NOBODY BUT YOURSELF
Contribute the maximum pre-tax income you can to your 401k for as long as you work. This is the absolute MINIMUM you can do to help ensure a comfortable retirement. After you have contributed a maximum to your 401k every year, contribute at least 20% of your after tax income after 401k contribution to your savings or retirement portfolio accounts. That way, you will have potentially DOUBLE the amount in total retirement saving if your household income is $100,000 or more. If your household income is closer to $50,000, you should still see a nice 30% boost to your retirement savings if you consistently save 20% of your after tax income.
Treat your 401k just like Social Security and write it off completely from your mind. Do not expect either accounts to be there for you when you retire, just like how you should never expect the government to ever help you when you’re in need. Just imagine 30 years from now, the government deciding to raise penalty free 401k withdrawal to age 80 from 59.5? Unfortunately, you need the money at age 60, and because you withdraw, the government imposes a 30% penalty on top of the taxes you have to pay. Don’t think it can’t happen. Expect it to happen!
The only thing you can count on is after tax money you’ve invested or saved. This is why after maxing out your 401k, it’s good to open up an online savings account, which have higher interest rates on average than your traditional bricks and mortar bank due to lower overhead costs. Your goal should be to then build as many passive income streams as possible.
Consider raising your after-tax savings percent after 401k contribution to possibly 50%. It won’t be easy, but if you practice raising your savings rate by 1% a month until it hurts, you’ll find it easier than you think. The most straight forward method is to make your 401k maximum contribution automatic, and save every other paycheck for the rest of your working life. Once you maximize your 401k and save over 50% of your after-tax income for at least 10 years in a row, you will be financially free to do whatever you want!
Recommended Actions For Increasing Your Wealth
* Manage Your Finances In One Place: The best way to build wealth is to get a handle on your finances by signing up with Personal Capital. They are a free online platform which aggregates all your financial accounts on their Dashboard so you can see where you can optimize. Before Personal Capital, I had to log into eight different systems to track 28 different accounts (brokerage, multiple banks, 401K, etc) to track my finances. Now, I can just log into Personal Capital to see how my stock accounts are doing, how my net worth is progressing, and where my spending is going.
One of their best free tools is the 401K Fee Analyzer which has helped me save over $1,700 in annual portfolio fees I had no idea I was paying. You just click on the Investment Tab and run your portfolio through their fee analyzer with one click of the button. Their Investment Checkup tool is also great because it graphically shows whether your investment portfolios are property allocated based on your risk profile. There is no better free online tool that has helped me stay on top of my finances more than Personal Capital. It only takes a minute to sign up.
* Check Your Credit Score: Everybody needs to check their credit score once every six months given the risk of identity theft and the fact that 30% of credit scores have errors. For over a year, I thought I had a 790ish credit score and was fine, until my mortgage refinance bank on day 80 of my refinance told me they could not go through due to a $8 late payment by my tenants from two years ago! My credit score was hit by 110 points to 680 and I could not get the lowest rate! I had to spend an extra 10 days fixing my score. Check your credit score for free at GoFreeCredit.com and protect yourself.
Photo: Occupy SF Tent, by Sam. Might be your home if you don’t max out your 401K and save more!
Post updated on 1/1/2015.