At some point, you’ve probably heard the financial advice that says you should max out your 401(k)—i.e., contributing the maximum allowable limit each year. You can contribute up to $22,500 of your annual salary for this calendar year.
While that may be good advice as a general concept, it may not be the right decision for everybody—it depends on your situation. Let’s dig into the pros and cons of maxing out your 401(k) to see what’s right for you.
Why you might consider maxing out your 401(k):
You grow your retirement assets. The more you save now, the more you’ll have later. If you’re working toward a certain amount for retirement, contributing the max means you’re saving at a faster rate.
It reduces your taxable income. 401(k) dollars are pre-tax money. That means whatever you contribute gets deducted from your total taxable income. The more you contribute, the fewer taxes you’ll pay when you file your taxes.
Take advantage of compound interest. Compound interest is when the money you’ve saved earns interest, and that money earns interest, and so on.
While these reasons might sound like a no-brainer, there are situations where it may not be in your best financial interest to max out your 401(k).
Limited flexibility. When you put your money into a retirement account, it’s locked up until retirement age, meaning you don’t have easy access to your funds. If you take money out before you’re eligible, you’ll have to pay a 10% penalty tax for early withdrawal and cover the state and federal taxes on the money you withdraw.
You have other financial needs. You could need the extra income for living expenses, be saving for a home, paying down high-interest debt, building your emergency fund, or have different financial needs requiring significant assets. In such situations, maxing your 401(k) might not make sense.
Your 401(k) plan isn’t great. Not all retirement plans are created equal. If your plan charges high administrative fees or doesn’t offer good investment options, it might not be prudent to max out your 401(k). Instead, contribute up to your employer’s maximum match amount and allocate additional retirement savings to other investment vehicles so you’re still aggressively saving for retirement.
It’s usually always a good idea to take advantage of any employer match you’re eligible for, which can help define a starting contribution amount to your 401(k). From there, it’s essential to consider your overall financial health when determining how much to put toward your 401(k).
Do you need help weighing the pros and cons of whether to max or not? We can help you determine the 401(k) savings amount that suits your financial circumstances and goals.
To Max or Not to Max…..Your 401(k)
August 23, 2023