Most 401(k) plans offered by employers have some sort of matching program. And most participants contribute exactly enough to take full advantage of their employer’s match, but not a penny more. While this is certainly a good start, it may not build enough of a nest egg to produce a comfortable, fulfilling retirement.
With that in mind, you might be surprised at how much of a difference a small increase in your 401(k) contributions could make.
How much should you be saving in your 401(k)?
There’s no perfect answer to this question, as it depends on several factors. At the absolute least, you should be saving enough to take full advantage of your employer’s matching contributions — so if they are willing to match your contributions up to 5% of your salary, that’s the lowest amount you should be putting in, period. Anything less, and you’re literally turning down free money.
401(k) participants should aim to save 10% of their salary, not including any employer contributions. However, there are some exceptions. For example, if you also save money in an IRA, or have a pension plan in addition to your 401(k), you can probably do just fine with less than 10%.
How much do you need to retire comfortably?
The better question is “how much income will I need, and how much savings will I need to sustainably generate this income?”
As a general rule of thumb, you can expect to need about 80% of your pre-retirement income after you retire. You can read a full discussion of how to determine your retirement number here, but here’s a simplified version:
Social Security is designed to replace about 40% of the average worker’s income, so the other 40% you need will have to come from other sources. If you don’t have any pensions or other income sources, this means it will need to come from your retirement savings.
So, to get a ballpark estimate of how much you’ll need in retirement accounts, follow these steps:
1. Multiply your salary by 40% (0.4)
2. According to the “4% rule” of retirement, you can safely expect to withdraw 4% of your retirement savings your first year of retirement, and then adjust for inflation in subsequent years. So, multiply the amount from step one by 25 (or divide by 4%).
3. This is how much you’ll need in savings.
You may be surprised at the difference a small increase could make
It may not sound like increasing your contribution rate by one percent of your salary could make a significant difference in your retirement savings over the long run, but you’d be wrong. You might be surprised to learn just how much of a difference a seemingly small increase could make. Here’s a calculator that can illustrate the impact of increasing your 401(k) contributions could have.
It may surprise you how significant your retirement accumulation may be simply by increasing the percent of your salary that you save each month in your 401(k).