Many of us, if not most, would like to retire as millionaires. It’s not necessarily the pipe dream you may think it is, though, because with enough time, savings, and determination, many people can amass $1 million by retirement.
One helpful tool for achieving a million-dollar retirement is the 401(k) plan that your employer may offer you. Indeed, you may even be able to reach $1 million investing only through your 401(k).
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Meet the 401(k)
First, understand what a 401(k) account is. It’s offered by gobs of employers — as it has gradually replaced pensions that many companies used to offer workers. It can be a very convenient way to invest for your future, because you can have money directed into it regularly straight from your paycheck.
Just aim to be aggressive about saving, because investing a small portion of your income is not likely to help you grow a massive war chest for retirement. Indeed, even the commonly recommended 10% of your income may be far from enough — especially if you’re getting around to investing for retirement rather late in the game.
Just like IRAs (individual retirement accounts), 401(k)s come in two main varieties: the traditional 401(k) and the Roth 401(k). With the traditional versions of either, you invest money on a pre-tax basis. So a $5,000 contribution will lower your taxable income by $5,000, saving you tax dollars upfront. When you ultimately withdraw from the account in retirement, that money will be taxed as ordinary income to you — ideally when you’re in a lower tax bracket.
The Roth version of IRAs and 401(k)s accepts post-tax dollars, giving you no upfront tax break. Sock away $5,000, and your taxable income for the year is not changed. What you get, though, is a back-ended tax break: If you follow the rules, you can withdraw funds in retirement tax-free.
Big money in, big money out
One of the big advantages of 401(k)s over IRAs is that they have far bigger contribution limits. For 2021, you can only sock away up to $6,000, total, in your IRA(s) — plus $1,000 for those aged 50 or older.
For 401(k)s in 2021, though, you can contribute up to $19,500 — plus an additional $6,500 for those 50 and up, totaling $26,000 for those folks.
If you invest $6,000 annually for 25 years, and it grows at 8% per year, you’ll end up with close to $475,000 — not even half of $1 million. But look what happens when you regularly invest bigger sums, like you can do within a 401(k):
|
Period of Growth (Growing at 8%) |
$10,000 Invested Annually |
$15,000 Invested Annually |
$20,000 Invested Annually |
|---|---|---|---|
|
5 years |
$63,359 |
$95,039 |
$126,718 |
|
10 years |
$156,455 |
$234,683 |
$312,910 |
|
15 years |
$293,243 |
$439,865 |
$586,486 |
|
20 years |
$494,229 |
$741,344 |
$988,458 |
|
25 years |
$789,544 |
$1,184,316 |
$1,579,088 |
|
30 years |
$1,223,459 |
$1,835,189 |
$2,446,918 |
Calculations by author.
It’s all about how long you invest and how much you can sock away regularly. You might hit the million-dollar mark in 20 years or even less if you’re saving aggressively in a 401(k). Remember that contribution limits are increased every year or few years, so in a decade, you might be allowed to contribute a lot more annually — and once you hit 50 your limit rises, too.
It’s well worth reading up on 401(k)s — and on the common 401(k) mistakes that people make. Learn about them so you don’t make those mistakes, as some of them can be quite costly. Then consider making the most of your 401(k) — or of one or more IRAs.
Many people are busy saving for retirement in 401(k)s, IRAs, and regular brokerage accounts, among other possibilities, and there are good reasons to do so, as 401(k)s have some disadvantages as well as advantages. (For example, they sometimes charge steep fees and they offer limited investment choices, though a low-fee index fund can be all you really need.)
Since the longer you can save and invest, the better, it’s worth getting a plan together as soon as possible — and then sticking to it.