The 401k has always been a curious system because on the one hand, it’s better than a sharp stick in the eye, but on the other hand, it’s simply not enough to retire on given the $19,000 cap on annual pre-tax contributions for 2019. In fact, I was so jaded by the 401K system that I recommended everyone max it out, but mentally write it off like I do social security. This way, you are forced to build your “real” savings and investments with your disposable income.
Recently, I got a kick in the pants when a 57 year old financial adviser named Larry told me he has over $5.5 million in his 401K! Holy crap, I thought to myself. How the heck did he accumulate so much, just in his 401K? The answer was simply longevity, performance, and company match.
HOW HE GOT TO 401K MILLIONS
Larry is a senior partner at his firm. Not a surprise since he’s been there for 35 years! He has been maxing out his 401K ever since the mid 70s. With a company match of $3,000 plus 9% of his base salary, Larry has been able to accumulate $40,000 to $49,500 every year for the past decade alone! You see, it’s not just $18,000 one can contribute. It’s $18,000 + $3,000 + (9% X his $350,000 salary) = $51,500 capped at currently $49,500 by law. In 2016, the maximum pre-tax contribution by employee and employer is ~$52,000 and has risen with inflation since.
See: How To Save Over $100,000 Pre-Tax A Year For Retirement if you’re curious to learn more.
Some of us might be thinking, well that’s just a ridiculous example since few people make $350,000 a year, and 9% of my base salary might only equal $5,000 – $9,000. Furthermore, some companies might not be as generous to provide such a high percentage match. If you’re thinking that way, that’s fair. However, you’re missing the point, which is that Larry got to such a lofty 401K balance because:
1) Larry maxed out his 401K every year. He did so since graduation because he envisioned great wealth during retirement.
2) Larry stayed loyal to his firm for 35 years, which has allowed him to maximize his retirement options and benefits. If you change firms constantly, often times there is a 1 year grace period before a company will match. Furthermore, once you do get the company match, there is a several year vesting period before the money is yours if you decide to leave.
3) With 35 years of service, Larry has ultimately been promoted and given salary increases as well. Not only is Larry a partner, he has also built up tremendous social capital within his firm. Larry doesn’t need to continue working, but he enjoys working with his friends.
THE AVERAGE 401K PROGRAM
Based on an informal survey of friends off-line and on-line, the average 401K percentage match is around 5% of salary up to $3,000. In other words, if you make $80,000 a year, you don’t get $4,000 in free money, but max out at $3,000 for a total of $19,500. The responses I got ranged from 0% to 9% match with many employers providing company profit sharing after a minimum number years of service or company stock grants.
With profit sharing and stock grants, company matching easily rises to 20% of the respondent’s base salary. 20% of one’s gross income going in to one’s 401K as pre-tax income is a fantastic yearly boost!
MAKING A DIFFERENCE
I’ve gone from being a skeptic of the 401K to being a believer. It’s really hard for me, and I’m sure many of you to see how a 401K can help us much in retirement after the first 15 years of contribution. But, as we get older, I’ve come to realize that it really isn’t just the $16,500 which is going in. It’s more like $20,000-$49,500 every single year, which is a much more impactful thanks to our employers’ contributions.
Longevity at one place really does have its merits. Just ask Larry with 35 years of experience and $5.5 million in his 401K alone! It also helps that the stock and bond markets aren’t in a death spiral either. No longer should we look at our 401K as a pitiful sub-account with woeful contribution to our financial well-being. So long as the government doesn’t pork us in the end with higher taxes upon withdrawal, our 401Ks are going to be huge!
RECOMMENDATION FOR BUILDING GREATER WEALTH
Manage Your Finances In One Place: I encourage everybody to get a handle on their finances by signing up with Personal Capital. They are a free platform which aggregates all your financial accounts in one place so you can see where you can optimize. Before Personal Capital, I had to log into eight 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 when my CDs are expiring.
The best part of Personal Capital is their 401K Fee Analyzer tool. It is now saving me over $1,000 a year in portfolio fees I didn’t know I was paying! They’ve also come out with their incredible Retirement Planning Calculator that uses your linked accounts to run a Monte Carlo simulation to figure out your financial future. You can input various income and expense variables to see the outcomes.
Post updated for 2019 and beyond. Once you’re done maxing out your 401k, it’s time to build your after-tax investments as large as possible so you can earn passive income. Who wants to work until 59.5 anymore?