Friday, 24 May 2019

What Percent Should You Contribute to 401k?

What Percent Should You Contribute to 401k?

Today we're talking about 401k contributions and how much you should actually put in them because a lot of people have 401k but they don't know how much they should be saving for retirement.

Read: The Truth About 401k - Risk And Benefit

What I want to do is honestly talk about how much you should contribute not saying this is the right answer or this is what you should mirror but I want to talk about why you should do this and hopefully, this will give you some insight as to how much you should contribute for your own 401k


To Get Started 
  • I really think that we should preface this with two questions and if you don't know the answer to these I think you'll know the answer to at least one of them

But if you don't know the answer to the first one you need to find out


Question 1: Does Your Employer Offer a "Matching" Contribution?

Some of you may not know what a matching contribution is, but essentially what it means is that when you contribute money to your 401k, your employer will match that dollar amount up to a certain amount.

For example, Let's say I make $5,000 a month and employer will match 5% of my contributions, let's say I decide to contribute 10% which is $500, of my paycheck to my 401k every single month

But in addition to that my employer matches 5%, they're taking 5% of my paycheck as well and putting that extra dollar amount into my 401k. And that's not my money that extra 5%, that's the company's money that they are giving me. That's a benefit to you.

Still, confuse? Let me break it down


  • I make 5,000 a month
  • I contribute $500 to my 401k which is 5%
  • The company I work with will also Contribute $500 which is also 5%
  • The $500/5% my employer contributes is a free money
  • That means $1000/10% will go to my 401k every month

I hope that's clear.

Well, what if you decide to contribute 2%, that means that I will be contributing a $100 to my 401k and my employer will be contributing $100 to my 401k

But wait a minute

I thought I just said that they'll contribute 5%, they will, but it's called a matching program for a reason, so if you only decide to contribute 2% they're only going to match you to 2% because that's what you contributed.

If you contribute 3% you're going to get 3%, 4% will be 4 all the way up to 5% they will match it. Anything after that they're just going to make their 5% contribution, it's not a bad thing it's free money but that is really going to play a factor in how much you should contribute.

If you do not know if your employer offers to match for your 401k, you need to find out its very nice benefit to have.


Question 2: Do You Have Debt/Loan That Needs To Be Paid Off?

Honestly, a 401k is an investment for the future. If you are 28 years old you cannot take money out of your 401k until you are 59 and a half years old unless you want to receive a penalty.

If you are in a position where you have debt, I really don't think you should be contributing an extreme amount of money to something that is way off in the future. You need to be focusing on paying off all of your debt that you have right now.

Read: How To Quickly Pay Off Your Debt With Little Income

Especially if you are looking at interest rate, like I said I hope you get 10%, that would be an awesome rate return for you every year, but look at what some of these debts are charging you, credit cards can be 25%, a personal loan could be 15%, a car loan is 8%, all of this stuff is just as high if not higher than your 401k return.


Why am I saving money for the future hoping to get 10% when I'm guaranteed to lose money and interest to these debts that are charging me even higher rate right now.


You need to pay this stuff off as quickly as possible before you can start sinking serious money to your 401k.

Those are two questions that I think you really need to answer before you make any serious decisions.

I'm going to use myself as an example

I will say that my company matched 5% of my paycheck and I decided to contribute 5% of my paycheck to my 401k, to a lot of investment advisors or financial they're probably going to say that "wow" you're really not contributing enough to your future and maybe they're right, but at the end of the day what I wanted to focus on as quickly as possible was paying off my mortgage.

I want to get that thing paid off as quickly as possible and I'm certainly not going to do a 30-year loan like so many other people.

I will contribute all the way up to my matching point and if that's 5% then great, I'm going to match my 5% so I can get all the free money that I can, but everything else taking home.

I'm sticking this money off to the side so I can get my mortgage pay off as quickly as possible.

That's what I will do for myself. 

Does that mean that it's the right answer for you? Maybe not, but I will say this, that matching program is awesome, it's something that you need to take advantage of because if you don't you're passing up free money.

There was a time I would say don't contribute to a 401k even if it has a good matching program if you know that you're only to be at this company for like 6 month, most of the time you have to stay with a company for a few years before you are fully vested.

But if this is something that you're going to stay at a job for like three month, don't even worry about setting up 401k with them, if it's short term just forget about it. Maybe just set up something online or an IRA somewhere, that might be a better option.


Conclusion

That's what I want to talk about today contributing to your 401k, a lot of people would have an exact dollar amount or percentage amounts that everyone should follow. 

But I don't think that's the answer, I think it's a unique situation for every individual and it's great to contribute as much as you possibly can but again for many people that can be decades away from being able to be used when they got stuff that's affecting them right now.

If you got debt, paid them off as quickly as you can before you contribute.

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