How Much Should You Put In Your 401(k)?
“How much should I put into my 401(k)?” might be the burning question of our age. Maybe it’s not the most dramatic question around, but how many nights have you laid awake pondering it? Of course, how much you ought to put into a 401(k) is a function of a number of complex factors. By exploring the subject from a number of perspectives, you will be better able to figure out what the right answer is for you and your family.
Do You Have an Employer Match?
This is the first question that follows from the main question of how much you ought to be putting into a 401(k). The good news is that there’s a pretty straightforward answer to this: If you have an employer match, you should be putting as much in as your employer will match—or as close to it as you can afford. To not max out your 401(k) when it has an employer match is to turn away free money. It’s far better to make a small sacrifice now for the huge payoff that comes with free money from your employer. Even if you have tons of debt, put your money here at the expense of paying that down.
No two people are the same. It sounds obvious, but it’s not. In fact, there is a lot of advice about how much you ought to throw at this or that—a retirement instrument that treats everyone the same way. The more important point is that you need to find out what budgeting ratio is going to work for you. For example, some people spend 70 percent, save 20 percent and give 10 percent away. You need to look at your budget and see what works for you. This can take some tinkering. Even when you figure it out, it doesn’t answer your question, though considering the tax advantages of a 401(k) can help.
After maxing out your 401(k) match, you want to build up an emergency fund for six months of living expenses. After that, you want to start throwing your savings into a 401(k) or other retirement savings instrument.
How a 401(k) Helps at Tax Time
You don’t actually get a tax deduction from a 401(k). What you get, however, is a reduction in your taxable income over the year. This might actually be better. While you can’t spend the money now, you can, up to certain limits, have money that can be spent later. What’s more, you can make your tax home pay increase every week. Finally there’s a Savers Tax Credit for single people earning less than $30,000, $45,000 for a head of household, or $60,000 for married couples filing jointly. It’s a credit, meaning that it’s going to reduce your taxes on a dollar for dollar basis. Talk to your accountant or tax preparer about how to get the most out of this benefit.
Written by Nicholas Pell. The views expressed herein are not intended to serve as a forecast, a guarantee of future results, investment recommendations or an offer to buy or sell securities by FutureAdvisor. Differences in account size, timing of transactions and market conditions prevailing at the time of investment may lead to different results, and clients may lose money. Past performance is not indicative of future results.