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Saving $18,000 in 2017 – 4 tips to max out your 401k

January 3, 2017 in Financial Planning by

No matter how much you might make, $18,000 is generally considered a good chunk of change. It’s the cost of a 2016 Chevrolet Sonic. For some, it’s the price tag on a first-class luxury vacation. It’s also the maximum amount you can contribute to your 401k this year (if you are under 50 years old).

We’ve all heard the sage advice to “max out your 401(k)” whenever you can, since the earlier you start doing this, the earlier you start reaping the benefits of tax breaks and compounding interest over time. But while everyone’s situation is different in terms of salaries, family situations, or employer matching programs, saving $18,000 per year boils down to $1,500 per month. That’s $750 per paycheck, if you’re paid twice a month. (Note: employer contributions do not count toward this number.) It’s doable, but it’s a hefty sum if you haven’t honestly worked it into your monthly budget.

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Here are four things to keep in mind if you’re trying to max out your 401(k) contributions this year:

1. Take stock of monthly payments. For some of us, tucking away $18,000 seems easy in the grand scheme of things. However, don’t forget about the other expenses you have to prioritize. Imagine, for example, that you make $150,000 per year. After taxes, let’s estimate that your take-home pay is around $90,000 per year, approximately $7,500 per month. That’s nothing to sneeze at, but you also have a mortgage or rent payment to think about. The national average monthly mortgage at that income level is around $1,700. Now you’re down to $5,800 per month. Think about any debt you’re trying to pay down. According to Student Loan Hero, the average monthly student loan payment is $351 (though you may want to think strategically about rushing to pay off that loan). The average American has $4,720 in credit card debt. Then there are other expenses — groceries, utilities, car payments, kid-related expenses, and other investments. Finally, factor in a $1,500 contribution to your 401k. Even though that contribution is pre-tax, your take-home pay may decrease faster than you realize, so it’s important to take a comprehensive look at your finances to understand what maxing out your 401k will look like on a month-to-month basis.

2. Calculate what you are paying in fees. You could be paying hundreds of thousands of dollars over a lifetime in hidden fees in your mutual fund, investing and retirement accounts. This means you think you’re saving all of your hard earned money, but you’re actually losing a portion of your savings without even realizing it, just adding years onto your working life before you can retire. By using our fee calculator, you can determine just how much you’re paying in hidden fees and, the impact to your portfolio over time. This will arm you with the information you need to change and optimize your investment strategy to maximize returns, which ultimately could be extra cash you can put toward your 401k.

3. Be strategic about big ticket expenses. Are you planning a huge blowout vacation? What about a second home? Even though these are “right now” purchases, they should be thought about in the framework of how they’ll impact you long-term, especially if you’re looking to max out your 401k contributions. Can you make your vacation into a 2-year plan, giving you more time to save up some cash, or use points-based rewards to upgrade your travel? Or are you thinking about the right things when it comes to purchasing that vacation home by assessing what your goals are in making this purchase and how best to leverage financing and tax options. Big purchases are meant to give us joy, and hey, you’ve earned them. But thinking about them long-term in context of planning for retirement will go a long way when trying to hit that $18,000 annual amount.

4. Take advantage of your employer contribution plans. An employer matching your contributions is basically like getting free money to sock away toward retirement. Make sure you understand what plan your employer offers and what that means for you. Most often, employers will match a percentage of your contributions – generally within 3% to 6% of your annual pay – although sometimes they will choose to match your contributions up to a specific amount. If your employer doesn’t match, see what it would take to negotiate that into your compensation package.

While $18,000 is large number to save considering all the other expenses you have in your life, with a little bit of strategic planning and adjustments, you should be able to work this into your financial strategy in 2017 – and beyond.

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16 comments

  1. Andrew

    This article incorrectly suggests that the amount your employer matches towards your 401k counts towards the $18,000 yearly contribution limit. It does not; in 2015, the combined contribution limit per year was $53,000. The fact of the matter is that every person who is seriouse about his or her savings should sock away the IRS allowable maximum to their 401k every year from their paycheck alone.

    Reply
    • Jennifer Kincaid

      Agreed! Updated to reflect the correct employer contribution info. Thanks!

      Reply
    • Rholaw

      It would be nice to use a more realistic annual salary. Everyone does not make 6 figures.

      Reply
  2. Mike

    I don’t believe the line “(Of course, if your employer matches your contributions, then you won’t need to cover this full amount yourself.)” makes sense. The $18,000 limit doesn’t include employee contributions, so maxing out a 401k would require $750 on a bi-weekly basis.

    Reply
    • Jennifer Kincaid

      You’re right, this has been updated. Thanks!

      Reply
  3. Paul Gessler

    “Of course, if your employer matches your contributions, then you won’t need to cover this full amount yourself.”

    While it’s correct that you don’t “need” to cover the full $18,000 yourself, that’s only true in the sense that nobody “needs” to max out their 401k each year. Employer matching and/or nonelective contributions are separate from the $18,000 employee elective deferral limit. So in most cases, employees could contribute the full $18,000 in addition to any matching or employer contributions. There are limits that apply to the combined contributions (employee and employer), but many people will not encounter these limits: For 2017, the annual additions paid to a participant’s account cannot exceed the lesser of 100% of the participant’s compensation or $54,000 ($60,000 including catch-up contributions). Reference: https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-401k-and-profit-sharing-plan-contribution-limits

    Reply
    • Jennifer Kincaid

      Thanks! This has been updated!

      Reply
  4. Scott

    “That’s $750 per paycheck, if you’re paid on a bi-weekly basis.”
    If paid bi-weekly, there are 26 paychecks per year or $692 per pay period. The $750 figure is if paid semi-monthly.

    Reply
  5. A

    It’s really easy to make up these relatively disconnected, fairly elitist articles when you begin with the assumption “imagine that you make $150,000 per year”

    While the math should be proportional, these types of assumptions have a negative effect on lower-middle class people reading these articles as they try to gain financial independence.

    Reply
  6. Nick B

    I always max out my 401k. I have no company match. I was thinking about maxing out early in 2017. I am single. I make 120k and have no problem with setting my 401k weekly contributions to 100% weekly.
    I believe my tax bracket changes from 28%and goes UP to 33%.
    Should i frontload my 401k or wait till later in the year ?
    Thank you.

    Reply
  7. James Peterson

    This article suggests that you “max out your 401(k)”.
    Financial advisors give the same advice.

    But “max out your tax deferred savings” is short-sighted advice.
    It can easily lead you to paying
    more taxes, not less, in the long run.

    The general advantage given for deferring taxes is that it avoids
    paying taxes now, at a possibly higher tax rate, and defers taxes
    until a later time, when your tax rate may be much lower. In
    addition, the investment growth of the tax-deferred funds is also
    tax-deferred, so that your investment returns are much higher.
    Clearly, a win-win situation: higher returns and lower taxes!

    But, it can be difficult to achieve this result in practice.
    A simple spread-sheet can show the problem. Assume that you get
    a good education, and a well-paying job in a secure field with a
    good future. At 30, you start contributing the maximum amount to
    a 401(k) and continue that until you retire. Your employer may
    match part of your contribution, but we won’t consider that. You
    may retire at 65 or later. You may start contributing before 30.
    But lets assume working from 30 to 65. Your funds are invested
    and grow, at some rate. The rate will vary, but this is a
    35-year investment, so let us assume a 6% annual return. It
    could be 8% or 10%; it could be 4% or 2%. There are many
    variables.

    But saving the maximum 401(k) amount from 30 to 65, with a 6%
    return means saving $744,000 with a value at retirement of
    $2,436,103.45. Starting earlier, working later, an
    employer match, a higher rate of return, also saving into a
    traditional IRA, all push the value of your tax deferred
    retirement savings higher. Adding a traditional IRA, plus
    working until 67, with an 8% rate of return would result in a
    retirement value of $5,775,995.33.

    The Wall Street Journal reported in 2014 about a GAO analysis
    showing some 45,228 IRAs with more than $3 million. Over 1000
    IRAs have more than $10 million. Mitt Romney had a traditional
    IRA worth as much as $101 million. (“Washington Scrutiny of
    ‘Supersize’ IRAs”, WSJ, 10 Oct 2014)

    (In my own case, I didn’t start seriously saving for retirement
    until I was 35, lost at least half in a nasty divorce at 45,
    retired early at 60 due to health issues, and still, at my full
    retirement age of 66, had over $3,000,000 in tax-deferred savings
    accounts. I deferred taxes at rates as high as 45% (Reagan) and
    as low as 28% (Clinton); 30% of the money in my tax-deferred
    accounts is taxes I did not pay, or the growth of those taxes.)

    So the good news is that it is possible to save enough money for
    retirement using tax-deferred retirement accounts. Of course,
    you have to actually put the money aside. While I did not pay
    taxes on the money, I also did not spend it. But the first half
    of the “win-win” situation works: I had higher returns and paid
    less tax.

    Consider the alternative, where we do not use tax-deferred
    accounts, but simply save the same amount of money, after paying
    taxes on it, in a standard investment account, invested in the
    same things (and so earning the same 6% return). Assuming an
    average tax rate of 30%, instead of $2,436,103.45 at 65, we would
    have only $1,705,272.

    It seems clear that you will have more money in
    a tax-deferred savings account (over $2 million) than if you had
    just saved after-taxes (less than $2 million). That’s why
    financial advisors say to max out your retirement accounts.

    But do you actually have more money in retirement? The
    tax-deferred account has grown mightly over 35 years, but what
    happens when you try to access the money? If you were to just
    take the money — all the money — that would be $2,436,103.45,
    which is taxed as ordinary income, and would be in the 39.6% tax
    bracket, so you would only have $1,471,406.48 left after taxes.
    There is a sizeable amount of “hidden” taxes buried in
    tax-deferred accounts; the balance you see is not what you get!

    Notice that this amount is less than what you would have if you
    just paid taxes on the original income and saved it in a
    (tax-efficient) brokerage investment account ($1,705,272). The
    deferred taxes are “hidden” in your tax-deferred account, and you
    can only benefit from the tax-deferral if you pay taxes as you
    draw it out at a lower rate than you deferred. But all money
    from a tax-deferred account — both the deferred income and it’s
    growth — is taxed as ordinary income, and the more you withdraw,
    the higher your tax bracket will be.

    If you want a spendable withdrawal of $100,000 from a traditional
    IRA, you will be in, at least, a 28% marginal tax bracket. You
    will need to withdraw $138,888.89 to get the $38,888.89 you will
    have to pay for taxes, leaving you with a spendable $100,000.

    You might hope to keep your tax rate down by not withdrawing a
    lot of money. But remember that your investments will continue
    to grow while you are retired. If you do not withdraw as much as
    it grows (we are assuming a 6% growth rate), the value of the
    tax-deferred account will continue to grow, making the problem of
    too much money in your tax-deferred accounts even worse.

    And at 70.5, you will be required to start withdrawing the money.
    Required minimum distributions (RMDs) start at 3.6%, and increase
    each year after that. By age 80, your RMD will be 5.35%. With
    over $2 million in tax-deferred accounts, that is over $70,000
    for the first RMD. As you get older, you will have more and more
    income, pushing you into higher tax brackets, if only because of
    the higher RMDs. And if you have Social Security benefits, you
    will have that income too (at the latest when you turn 70).

    If you max out your tax-deferred retirement savings, you can
    easily end up being pushed into higher tax brackets than the
    tax bracket that you deferred from.

    Contrast this with not using a tax-deferred account, and just
    saving in a brokerage account. The original income is taxed as
    ordinary income, but with a little care all the growth can be
    treated as long-term capital gains. Long-term capital gains are
    only 15% (maybe 20%), substantially lower than the tax rate for
    ordinary income. And there are no RMDs for your brokerage
    account.

    In summary, if you are earning money in a low income tax bracket,
    save for retirement by contributing to a Roth IRA. If you are in
    a higher tax bracket (28% or higher) or your company matches your
    contribution, you can contribute to a tax-deferred 401(k)
    account, but try to limit your contributions, to avoid “saving
    too much” in tax-deferred accounts, since both the contributions
    and its growth will be taxed as ordinary income. Too much
    tax-deferred money will push you into high tax brackets.

    Rather it is better, long-term, to save in tax-efficient
    brokerage accounts, where the growth will be taxed as long-term
    capital gains, or, if inherited, not taxed at all, due to a
    “step-up” in the cost basis.

    Of course all this depends upon the current definition of the tax
    code; significant changes to the tax code may change these
    tactics.

    Reply
  8. bill thinnes

    what if your over 50 years old ,what is the max. you can take out per year?

    Reply
  9. Stacy

    Why is no one discussing the fact that most of Americans don’t make over 100k and can easily sock away 18k a year? I’m all for making smart financial decisions but give me a relatable, real suggestion based on a “real” income.

    Reply
  10. Erik Siersdale

    Let me start by saying the math stated in the article is correct. However, the assumptions seem wildly out of proportion. “Imagine, for example, that you make $150,000 per year”. That would put you in the top 4% of all Americans per the WSJ analysis linked below.

    http://blogs.wsj.com/economics/2016/03/02/what-percent-are-you-2/

    “The national average monthly mortgage at that income level is around $1,700.” Why would someone who is in the top 4% of income have an average level mortgage on a house worth less than $300,000 on purchase? Wouldn’t someone in the peak of success have a living arrangement that matched?

    Saving is important. Putting away 18,000 a year pre-tax, especially if you are under 50, just seems unreachable for a large proportion of our country.

    Reply
  11. Charles Vinroot

    If I have 24K$ as an RMD for 2017 with 31K$ in SS income (taxable) and 65K$ income military pension (taxable) and don’t really need to spend the RMD, what’s the smartest thing to do with it!? We have 500K$ in a 401K.

    Thanks,

    Charlie

    Reply
  12. The Fire Drill

    “If your employer doesn’t match, see what it would take to negotiate that into your compensation package.”

    401k matching is standardized across an organization (by law), so no one person can negotiate matching into their compensation package unless the company changes their policy for everyone.

    Reply

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