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If you don't contribute to your 401(k) plan, you may be missing out on a big wad of cash from your employer.
Most companies that offer these workplace retirement plans will match your contributions up to a certain amount. Depending on your salary and the matching formula used, that could translate into thousands of extra dollars going toward your nest egg every year. And after leaving it there to grow? Your future self would probably thank you.
"It's so important to take every bit of money your company wants to give you," said Kathryn Hauer, a certified financial planner with Wilson David Investment Advisors in Aiken, South Carolina. "Your employer is saying they'll give you money, and to get it, you just need to set aside savings for yourself every year."
About two-thirds (60%) of all workers had access to a 401(k) plan last year, and 72% of those eligible employees participated, according to the Bureau of Labor Statistics. While there are many reasons for not participating, a number of experts say that passing on a company's match is basically giving up part of your compensation. And, they compare the match to getting an immediate — and big — return on your contributions.
"If you have an employer that in essence is giving you a rate of return of 100% or 50% on your contribution, regardless of whether you're 18 or 65, you really have to take the money," said CFP Glen Smith, managing partner of Glen D. Smith and Associates at Raymond James in Flower Mound, Texas.
And, of course, if you are able to contribute more than just enough to get the match, that can only help your nest egg grow. The 2020 contribution limit for 401(k) plans is $19,500, with people age 50 and older allowed an extra $6,500 as a "catch-up" contribution for a total of $26,000.
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Remember, too, that if you have a traditional 401(k), your contributions are made pretax, which reduces your taxable income (and, in turn, how much you pay in taxes). If it's a Roth, your contributions are made after-tax.
And, whether you contribute to a traditional or Roth 401(k), the company's match always goes into the former and is not taxable compensation. Also, employer contributions do not count toward the contribution maximums.
The most common matching formula, according to Fidelity Investments, is a 100% match for the first 3% you contribute with a 50% match for the next 2%. Some companies also make contributions that aren't based on a matching formula.
Even if you don't think you'll be there long enough to be fully vested, even a 20% or 40% vested match is free money.
Glen Smith
managing partner of Glen D. Smith and Associates at Raymond James
While any contributions you make are always yours, the employer contributions typically are on a vesting schedule — that is, you must work at that company for a certain amount of time before the match is 100% yours. Often, vesting happens gradually — i.e., 20% of the match is vested after one year, 40% after two years, and so on.
"Even if you don't think you'll be there long enough to be fully vested, even a 20% or 40% vested match is free money," Smith said.
As for what the savings would look like down the road: For illustration purposes, assume your annual salary is $50,000. If you were just to contribute enough to get the employer match, the most common matching formula would mean you contribute 5%, or $2,500, in a year, and your company would put in another $2,000 — totaling $4,500 a year.
If you did that for only one year, the money would be worth about $26,200 in 30 years, based on a 6% annual return, according to data provided by Fidelity Investments.
If you were to do that five years in a row, with your salary increasing 2% yearly, your account would be worth roughly $69,000 in 30 years. Ten years in a row? The account would hit $202,300 in three decades. And the amount that came from the employer match would be $89,900 — 44% — of it.
Generally speaking, workers can use all the help they can get in saving for retirement. While there are now a record number of 401(k) accounts at Fidelity worth at least $1 million, they represent a sliver of the retirement accounts managed by the company.
The median account balance — half are above, half are below — among pre-retirees is far from the $1 million mark, according to Vanguard's How America Saves Report. For people ages 55 to 64, the median account balance in 2018 was about $61,700. For those ages 45 to 54, it was $40,200.
If you're already feeling financially squeezed, experts say, it may be hard to imagine parting with any more of your paycheck even when it would be money waiting for you when you retire.
"I'm sympathetic to how hard it can be to make ends meet," Hauer said. "But even if you can't contribute enough to get all of the match, it's worth at least getting some of it."
Additionally, you can always back off contributions.
"If you're at 3% and realize it's too much, reduce it to 2%," Hauer said. "It's not a permanent commitment."
In other words, you can typically go online to your account through your company's plan administrator and adjust your paycheck withholding as needed.
Smith also said that he's seen some people start at contributing just 1% of their salary and then they realize they can manage that level of savings and increase it to 2% or 3%.
"Sometimes it's hard to get started," Smith said. "Some younger people think, 'Oh, I have plenty of time,' and then some older people say, 'It's too late now.'
"But it's not — you have to start somewhere," he said. "And especially if the money's being matched, it's a good way to get it to start snowballing."
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