How Much Do You Need in Your 401(k) and How Much Should You Contribute?

A 401(k) is a tax-advantaged, employer-sponsored retirement plan that offers numerous benefits, from systematic savings to potential investment growth and tax savings. Determining how much you should contribute to your 401(k) to ensure a secure retirement while balancing out your current financial responsibilities can be challenging.

While there is no one-size-fits-all figure, this article will offer some suggestions to help you find the right contribution amount for your 401(k). A financial advisor can also help you understand how much you should put in your 401(k) based on your unique situation.

How much do I need in my 401(k), and how much should I be contributing to 401(k) to reach my desired target?

According to Fidelity Investments, the average 401(k) account balance varies significantly across age groups. For those in their 20s, the average balance is $10,500, while individuals in their 30s typically have around $38,400 saved. The balance increases as people reach their 40s, averaging $93,400, and continues to grow to $160,000 for those in their 50s. For individuals approaching retirement in their 60s, the average balance stands at $182,100 and decreases to $171,400 in their 70s.

While these figures can be used as guides, the actual amount of money you need in a 401(k) will depend on your lifestyle and financial needs. Here are some tips that can help you figure out a suitable contribution amount for your 401(k)-retirement account:

1. Up to the maximum permissible limit for the year

The Internal Revenue Service (IRS) sets contribution limits for 401(k) accounts each year. For 2024, the IRS has set the annual contribution limit for 401(k) accounts at $23,000. If you are 50 years old or older, you have the added benefit of making a catch-up contribution. For 2024, the catch-up contribution limit is an additional $7,500, which allows you to contribute up to $30,500 in total.

Contributing up to the maximum permissible limit offers several significant advantages. Since contributions to a traditional 401(k) are made pre-tax, maximizing your contributions reduces your taxable income for the year. This can be beneficial for everyone, but especially for those who fall in a higher tax bracket. The more you contribute, the more you lower your taxable income, which can be a great way to save on taxes while building your retirement nest egg. Contributing the maximum amount can also simplify your financial planning. Simply aiming for the IRS limit ensures that you do not have to worry about adjusting your contributions throughout the year. All you have to do is set up your contribution plan for the year according to the year’s limits. It can run on autopilot through automated contributions and ensure you consistently hit the target without needing constant adjustments.

Moreover, contributing up to the maximum also allows you to make the most of employer contributions. The more you contribute, the more you can benefit from the employer match, which can help you grow your retirement savings faster. Overall, maximizing your retirement contribution enables you to reach your retirement goals sooner. The combination of your contributions, employer matches, and compound growth can significantly enhance your retirement savings over time and potentially allow you to even retire sooner if you wish.

The idea of contributing an amount as high as $23,000 or $30,500 can seem overwhelming. But it can be helpful to break it down into monthly contributions. These can be a lot more manageable. For example, if you are aiming to contribute $23,000 in 2024, you can contribute about $1,917 per month. If you are eligible for the catch-up contribution and plan to contribute $30,500, your monthly contribution would be approximately $2,542. This way can make it easier to budget. Having said this, if maxing out your 401(k) contributions feels too burdensome, you can consider lowering your contributions to as much as required while still focusing on your other financial priorities.

It is also essential to stay informed about the latest contribution limits, as they can change annually. You can find the most up-to-date information on the IRS website. Alternatively, you can also consult with your company’s HR department or accountant or speak with a financial advisor. Being aware of the current limits allows you to adjust your contributions accordingly.

2. Enough to get a full match from your employer

One of the most significant advantages of participating in a 401(k) plan is the opportunity to receive a matching contribution from your company. This match is added to your retirement savings and enhances your nest egg. A 401(k) match occurs when your employer contributes additional money to your 401(k) account. This amount is decided based on the amount you contribute. Some employers may also offer a non-matching contribution in the form of profit-sharing, even if you do not contribute to the account. However, the specifics of a 401(k) employer will depend on your company’s policies and differ from employer to employer.

Having said that, the most commonly used way to determine the employer match is either a dollar-for-dollar match, also known as a 100% match or a partial match, such as 50%, for each dollar you contribute. Here’s how each of these works:

Full match: If you have a full match, your employer will match 100% of your contributions up to a certain percentage of your salary. For example, if your employer gives you a 100% match up to 3% of your annual income, they will contribute an amount equal to 3% of your salary if you contribute the same amount.
Partial match: In this scenario, your employer matches a portion of your contributions. For instance, a 50% match means your employer will contribute 50 cents for every dollar you put into your 401(k), up to a certain percentage of your salary.

Some employers may even use a combination of both full and partial matches.

Here’s an example to understand how an employer match works. Suppose your employer offers a 100% match on your contributions but only up to 3% of your annual salary. Let’s say you earn $60,000 per year. In this case, 3% of your annual salary is $1,800. So, $1,800 is the maximum amount your employer will contribute to your retirement account for a year. To get the full $1,800 match from your employer, you also need to contribute $1,800 yourself. If you decide to contribute more than $1,800 or more than 3% of your salary, your employer will still only contribute $1,800. Any contributions beyond that will not be matched. So, if you only contribute $1,500, you will miss out on $300 of free money. On the other hand, if you contribute $2,000, your employer will still only contribute $1,800 because that is the maximum match they offer.

Now, let’s look at how a partial employer match of 50% works. If you earn $60,000 per year, 3% of your salary is $1,800. Since your employer matches at 50%, they will contribute half of your $1,800 contribution, or $900, to your retirement account. If you contribute less than $1,800, say $1,200, your employer will contribute 50% of that, or $600. If you contribute more than $1,800, your employer will still only contribute $900 because that is the maximum match they offer. Any contributions beyond the 3% will not be matched.

Irrespective of whether your employer matches a 100% or 50% match, you must aim to contribute at least as much as needed to get the highest possible employer match.

3. According to your current and retirement age and financial situation

Another way to determine how much of your paycheck should go to a 401(k) is by using general rules based on your age and financial situation. Many financial experts recommend saving between 10% and 20% of your gross income for retirement. However, the exact percentage you should contribute may vary depending on your current age, how many years you have until retirement, and your financial obligations. Here are two examples that can help you determine a suitable value for your contributions:

In your 20s or 30s: If you are in your 20s or 30s, you still have plenty of time to build your retirement savings and take advantage of compound interest over the years. Ideally, you should aim to contribute around 15% to 20% of your salary to your 401(k) during these years. A higher contribution rate can be particularly beneficial if you have not started saving for retirement yet. However, if you are managing other financial commitments, such as paying off a student loan, saving for your family’s financial needs, or paying a house downpayment, you might find it challenging to contribute the full 20%. Starting with a 10% contribution rate can be advised in this case. This way, you can balance saving for retirement with addressing other financial goals.
In your 40s or 50s: You are likely more established in your career during these years, and your income may be higher. So, you can aim to contribute at least 15% to 20% of your income to your 401(k), if not more. By the time you reach your 50s, retirement is approaching. It is essential to focus on maximizing your savings to ensure you can boost your retirement fund. Fortunately, the IRS allows for catch-up contributions if you are over 50. You can contribute an extra $7,500 to your 401(k) in 2024 at this age. However, while it is important to prioritize your retirement savings, you must also make sure you are still considering other financial goals. For example, you may want to pay off your mortgage or other debts before retiring. Once your debt is more manageable, you can increase your retirement contributions.

4. Consider your other goals

While contributing to your 401(k) is essential for securing your retirement, it is equally important to balance this goal with your present financial needs and aspirations. Retirement may be a long-term goal, but your short-term and medium-term financial priorities should not be neglected in the process. To determine how much you should have in your 401(k), you must consider your entire financial situation and set clear goals for both now and the future.

You can start by assessing your overall financial picture. Calculate your monthly after-tax income and list all your expenses, including essentials like housing, utilities, insurance premiums, etc., and non-essential expenses like dining out, entertainment, etc. Next, determine your target retirement age. This will give you a clear timeline for reaching your retirement savings goal. Once you have a clear understanding of your financial situation and retirement age, you can decide how much of your income you can realistically allocate toward your 401(k) every year. For example, if you find that after covering all your expenses, you have $400 left over each month, you can decide to split that amount between your 401(k) and other financial goals. You could contribute $200 to your 401(k) and use the remaining $200 to build up your emergency fund or save for a down payment on a house. Likewise, if you have more disposable income, say $1,000 a month, you may choose to increase your 401(k) contributions while still setting aside some money for other goals. No matter what you choose, it is essential to find a balance that allows you to build your retirement savings without compromising your quality of life in the present. Your financial situation is likely to change over time, so it is also important to be flexible with your 401(k) contributions. If you receive a raise or a bonus, consider increasing your contributions. Similarly, you can lower your contributions to make ends meet if you face a financial setback.

When deciding how much to contribute to your 401(k), it is essential to consider the following:

Ensure you have a fully funded emergency fund that covers three to six months’ worth of your living expenses and medical emergencies or job loss.
If you have high-interest debt, such as student loans or credit card debt, prioritize paying it down before contributing heavily to your 401(k).
Consider other goals that are important to you, such as saving for a home, funding your children’s education, or traveling. Allocating a portion of your income to these goals while still contributing to your 401(k) can help you achieve steadiness in your financial planning.
Your lifestyle and personal preferences should also play a role in determining your 401(k) contributions.

5. Gradually keep increasing your contributions

As you advance in your career, your salary is likely to increase. Along with that, the cost of living typically rises due to inflation. You can adjust your 401(k) contributions to reflect these changes. At the start of each year, take the time to review your 401(k) contributions. Consider how much you contributed the previous year and assess your current financial situation. For example, you can choose to increase your contributions by a fixed percentage each year. You can decide to raise your contributions by 1% to 2% annually. If your income increases significantly, you could opt for a larger increase, such as 5% to 10%.

The IRS also periodically adjusts the 401(k) contribution limits to account for cost-of-living changes. While you may not be able to max out your contributions every year, you can at least try to gradually increase them to get closer to these limits over time.

To conclude

How much do you need in a 401(k) to retire? – This is highly subjective and depends on various factors, including your lifestyle, expenses, and retirement goals. Considering the tips provided above and analyzing your personal needs can help you arrive at a figure that suits your lifestyle. Consulting with a financial advisor can also be helpful to ensure you select a suitable amount.

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