There’s no hard and fast rule for how much of your salary you should put into your 401(k) plan account. But, in general, you should always consider contributing as much as possible, depending on your specific financial circumstances.

A combination of factors will dictate how much you should personally save, including:

How much of your take-home pay you can afford to set aside
Your age
Whether you think your retirement savings are on track to meet your goals
How close you are to retirement

Increasing your 401(k) contributions can add up

Over time, even a seemingly small percentage difference in your contribution rate can make a big difference. Below is a hypothetical illustration of the total amount accumulated over 30 years, based on an annual salary of $75,000.Image of two horizontal bar graphs. The first graph represents contributing 6% ($367,221) and the second graph represents contributing 10% ($612,035).

This hypothetical illustration assumes a salary of $75,000, contribution rates of 6% and 10% with contributions made at the beginning of the month and a 6% annual effective rate of return. Hypothetical results are for illustrative purposes only and are not meant to represent the past or future performance of any specific investment vehicle. Investment return and principal value will fluctuate and when redeemed the investments may be worth more or less than their original cost. Taxes are due upon withdrawal. If you take a withdrawal prior to age 59½, you may also be subject to an additional 10% tax unless an exception applies.

“Many people have benefited from contributing as much money as possible to a 401(k) account, within specified limits,” says Margie Feola, director, defined contribution product manager at Bank of America.

Know your maximum contribution limit

Start by understanding how much you’re allowed to contribute, and work back from there. Your maximum contribution limit depends on how old you are. In 2020, if you’re under age 50, you can contribute up to $19,500 per year; if you’re age 50 or older, you can contribute up to $26,000 per year, as long as your employer’s 401(k) plan permits catch-up contributions. These limits do not include any matching contribution that your employer might provide. The combined employee-employer contribution limit for 2020 is $57,000, not counting any catch-up contributions (if plan permits). Your employer’s 401(k) plan may further limit the amount you may contribute.

Take advantage of company matching

“Matching contributions are essentially free money from your employer, and you may want to take advantage of them while you can.”

–Margie Feola, director, defined contribution product manager at Bank of America

If you are fortunate enough that your employer offers to match your 401(k) contributions, consider contributing at least as much as the percentage your company will match. Say your employer will match 50 cents on each dollar you contribute up to 6% of your salary—then aim to contribute at least that much, if you can, to take full advantage of the benefit. “Matching contributions are essentially free money from your employer,” says Feola, “and you may want to take advantage of them while you can.”

Consider making Roth contributions

Putting money into a Roth 401(k) account may be a good option if your employer offers it. Qualified withdrawals1 from a Roth 401(k) account are federal income tax-free, which can help to reduce your tax burden in retirement.

Create an emergency fund so you won’t have to tap your 401(k) account early

Before maxing out your contributions, make sure you have money set aside in an emergency fund—three to six months’ worth of living expenses is generally considered enough—as well as whatever you need to cover short-term goals like paying off debt and loans. You don’t want to be caught in a situation where you’re forced to withdraw funds from your 401(k) account before age 59½. In that case, your withdrawal will be taxed as ordinary income and may be subject to a 10% additional federal tax, unless an exception applies, such as a coronavirus-related distribution allowed by the CARES (Coronavirus Aid, Relief, and Economic Security) Act.



0 0 votes
Article Rating
Notify of
Inline Feedbacks
View all comments
Would love your thoughts, please comment.x
error: Alert: Content is protected !!