To whom does the advice "max out your 401k" not apply?
by tidalwave10 » Mon Feb 17, 2014 7:43 am
An old saw of personal finance advice is to max out one one's retirement plan contributions each year. Often stated reflexively and without context, this directive seems to presume a "high" salary. Not sure how I'd define that in any absolute terms. But if maxing out means contributing the full allowed amount annually by the IRS, presently $17,500 per person for those under age 50, then:
* At a gross salary of $52,500, a max out represents 1/3 of income.
* At a gross salary of $35,000 a max out represents 1/2 (50%) of income (ouch!)
If one is over age 50, the percentages go up since the max out value allowed goes up (catch-up contributions).
Just for the record, to address the Subject tag of my thread, I realize there may be plenty of situations, some transient, where maxing out one's retirement plans should not be one's present objective, e.g. if someone needs to pay down high interest consumer debt, build-up an Emergency Fund, etc. I'm asking specifically about income thresholds to guide whether or max out.
I'm all for maxing out--trying to do so myself and considering multiple retirement plan max-outs. Wife and I each have access to two retirement plans simultaneously: a 401k and 457b. Maxing out both is impossible for my wife--it would actually exceed her salary; especially since the Pension Plan takes 6% of each paycheck. Musing about mega-maxing out here--when to do it and why--but haven't received much response. Post is too wordy I suspect:
... but I do question the wisdom of any universal directive to max out for those at all income levels. Guess I'd like to see suggestions to max out one's retirement plans come with a responsible conditional or qualifier, e.g. "If or When: X, Y, or Z..." Perhaps to say this is a goal one ought generally to aspire to?
Were you to provide a conditional or qualifier to the advice to max out, what would it be?
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Re: To whom does the advice "max out your 401k" not apply?
by ajcp » Mon Feb 17, 2014 8:35 am
tidalwave10 wrote:An old saw of personal finance advice is to max out one one's retirement plan contributions each year. Often stated reflexively and without context, this directive seems to presume a "high" salary. Not sure how I'd define that in any absolute terms. But if maxing out means contributing the full allowed amount annually by the IRS, presently $17,500 per person for those under age 50, then:
* At a gross salary of $52,500, a max out represents 1/3 of income.
* At a gross salary of $35,000 a max out represents 1/2 (50%) of income (ouch!)
After the "max out your 401k" is an implied, but I guess not always inferred "before taxable involvements". The sentiment isn't to eat crackers for dinner to max out your 401k, it's to max it out before using other investment options.
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Re: To whom does the advice "max out your 401k" not apply?
by swimirvine » Mon Feb 17, 2014 8:48 am
I think the advice means that people should put as much as possible into their 401k since it's a tax-deferred vehicle. Exception
The 401k is full of high fee actively managed funds
a. invest in the 401k up to the max employer match
b. invest in a Roth IRA up to max
c. then go back and put any additional money into the 401k
d. In a rare scenario of a 401k without an employer match and with a menu of terrible funds, one might consider a taxable account over the 401k
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Re: To whom does the advice "max out your 401k" not apply?
by Spirit Rider » Mon Feb 17, 2014 10:02 am
You are taking the term "max" literally, when it is not intended that way. It is always subject to the availability of investment dollars.
1. Everybody should be contributing to their 401k up to the company match. Just find a way to do it. Otherwise you are giving up free money
2 Beyond that everyone has a different set of circumstances. They should allocate a given percentage of their compensation to savings and investment. Ideally, that number should be at least 10%, but with families and today's student loans that isn't always possible. A good rule if your savings rate is very low is to increase it by at least 1%/yr or 1/2 of any pay increases whichever is larger until you reach your goal.
3. Since it requires roughly twice the median salary to max out the 401k employee deferral, statistically there are many people who will never be able to do so in their lifetime. If they find that they are able to contribute 15% of their salary the majority of their careers, they will be in the upper tiers of their peers in retirement security.
Bogelheads skew to well above average incomes. Just as life is about living well below your means and not keeping up with the Joneses. Investing is about slow and steady wins the race and not worrying about keeping up with most of the Bogleheads. It is a philosophy not an income level.
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Re: To whom does the advice "max out your 401k" not apply?
by JamesSFO » Mon Feb 17, 2014 10:19 am
One rule of thumb (Money Ratios by Charles Farrell) suggests saving on the order of 10-15% of annual salary to end up with 80% replacement. I think "max out" is meant in the context of that sort of saving and in contrast to saving taxably. Also, usually it is 401K to match, then (roth) IRA, then max out 401K then taxable.
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Re: To whom does the advice "max out your 401k" not apply?
by Spirit Rider » Mon Feb 17, 2014 11:01 am
If you consider your goal to be 80% of pre-retirement salary there is another consideration, Social Security.
Moderate wage earners receive a greater percentage of their income in SS benefits. The Primary Insurance Amount (PIA) used to calculate your benefits is about 40% of the Average Indexed Monthly Earnings (AIME) where the AIME is about 1/2 of the maximum. The PIA is about 30% of the AIME where the AIME is at the maximum. SS max wage base is $117K for 2014. Note: That percentage declines even more as the number of years and the amount you exceed the max.
So if your lifetime income is moderate ($59K in 2014), you need only about 40% of your pre-retirement income to be provided from savings and investments. If your lifetime income is high ($117K in 2014), you need >= 50% of your pre-retirement from savings and investments.
So it is the higher income wage earners who have the greatest need (and luckily the greatest ability) to maximize their retirement savings and investments.
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Re: To whom does the advice "max out your 401k" not apply?
by buckstar » Mon Feb 17, 2014 11:14 am
I few other considerations:
if there is no match and you anticipate your post-retirement tax rate to be higher than your current rate
if you have high interest rate debt (credit card debt usually)
I'm sure there's others, but the point is that it's not a hard and fast rule.
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Re: To whom does the advice "max out your 401k" not apply?
by ofcmetz » Mon Feb 17, 2014 12:08 pm
If the 457B is a non-governmental plan then I wouldn't put anything into it and would instead use other savings vehicles.
I think the "max the 401K" is generic just like the "age in bonds" advice. You can do a lot worse and sometimes not very much better. I would definitely recommend that tax advantaged accounts are maxed before taxable investing in most cases, but if your income isn't large enough then maxing a his and hers 401K isn't always advisable.
The wife and I don't max our tax advantaged vehicles yet still save $38,000 or so a year. I would have to save twice this to max them, and I'm not willing to do that. We are still on a fine pace towards reaching our goals.
Showing up at the donut shop at 5 am to get them hot out of the oil is an example of successful market timing.
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Re: To whom does the advice "max out your 401k" not apply?
by Buffetologist » Mon Feb 17, 2014 1:42 pm
While I'm a fan of Bogle, I'm also a fan of Dave Chilton's Wealthy Barber financial planning book.
He recommends a "10% fund" to build wealth just for the good things in life. Unless you don't plan on doing anything good until you are 55, this would go into a taxable stock fund account. I view this as basically "The Family Business".
I would prioritize the following:
1. 401K up to the company match. (No brainer).
2. 10% fund in taxable stock fund for wealth building.
3. Save for a home
4. Pay off high interest debt (student loans, car loans, credit cards)
5. Max out retirement but not if it causes you to incur more high interest consumer debt.
6. Save for kids college fund. Switch 5 and 6 if you know you won't be getting any aid.
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Re: To whom does the advice "max out your 401k" not apply?
by MathWizard » Mon Feb 17, 2014 1:54 pm
Buffetologist wrote:While I'm a fan of Bogle, I'm also a fan of Dave Chilton's Wealthy Barber financial planning book.
He recommends a "10% fund" to build wealth just for the good things in life. Unless you don't plan on doing anything good until you are 55, this would go into a taxable stock fund account. I view this as basically "The Family Business".
I would prioritize the following:
1. 401K up to the company match. (No brainer).
2. 10% fund in taxable stock fund for wealth building.
3. Save for a home
4. Pay off high interest debt (student loans, car loans, credit cards)
5. Max out retirement but not if it causes you to incur more high interest consumer debt.
6. Save for kids college fund. Switch 5 and 6 if you know you won't be getting any aid.
I would suggest that 4 goes right after 1
I don't get #2. Why do you want taxable if you have 401K and/or ROTH space available?
Taxable account shoud come last.
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Re: To whom does the advice "max out your 401k" not apply?
by Peter Foley » Mon Feb 17, 2014 2:06 pm
I would agree with a couple suggestions already made.
1. 401k to the company's match
2. Beyond the company match one should consider the availability of 401k options with low expense ratios. (Essentially don't invest more in the 401k if a TIRA option would be more cost effective or provide greater diversification at a lower cost.)
As a third I would add that if one is in the 10% or 15% bracket, putting funds in a Roth rather than contributing beyond the employer's match might make more sense. For a young person starting out it would be very hard to estimate his/her tax bracket in retirement. Roth space is also much more limited than 401k space.
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Re: To whom does the advice "max out your 401k" not apply?
by leonard » Mon Feb 17, 2014 2:06 pm
Buffetologist wrote:While I'm a fan of Bogle, I'm also a fan of Dave Chilton's Wealthy Barber financial planning book.
He recommends a "10% fund" to build wealth just for the good things in life. Unless you don't plan on doing anything good until you are 55, this would go into a taxable stock fund account. I view this as basically "The Family Business".
I would prioritize the following:
1. 401K up to the company match. (No brainer).
2. 10% fund in taxable stock fund for wealth building.
3. Save for a home
4. Pay off high interest debt (student loans, car loans, credit cards)
5. Max out retirement but not if it causes you to incur more high interest consumer debt.
6. Save for kids college fund. Switch 5 and 6 if you know you won't be getting any aid.
Why would someone prioritize "the good things in life" if it comes at the expense of retirement funding? That could happen if one strictly follows your prioritization above.
Drive a Ferrari, but plan on Mac and Cheese and a cheap apartment for retirement.
Sorry - that makes no sense at all.
EDIT: one more thing "Switch 5 and 6 if you know you wont' be getting any aid". So you are saying there is a situation where parents should put their retirement at risk (and risk being a burden on their kids) by prioritizing College funding over retirement funding. Kids can get loans for college. No loans available for retirement. Again, this prioritization makes no sense.
Leonard | | Market Timing: Do you seriously think you can predict the future? What else do the voices tell you? | | If employees weren't taking jobs with bad 401k's, bad 401k's wouldn't exist.
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Re: To whom does the advice "max out your 401k" not apply?
by jackholloway » Mon Feb 17, 2014 2:10 pm
MathWizard wrote:
Buffetologist wrote:While I'm a fan of Bogle, I'm also a fan of Dave Chilton's Wealthy Barber financial planning book.
He recommends a "10% fund" to build wealth just for the good things in life. Unless you don't plan on doing anything good until you are 55, this would go into a taxable stock fund account. I view this as basically "The Family Business".
I would prioritize the following:
1. 401K up to the company match. (No brainer).
2. 10% fund in taxable stock fund for wealth building.
3. Save for a home
4. Pay off high interest debt (student loans, car loans, credit cards)
5. Max out retirement but not if it causes you to incur more high interest consumer debt.
6. Save for kids college fund. Switch 5 and 6 if you know you won't be getting any aid.
I would suggest that 4 goes right after 1
I don't get #2. Why do you want taxable if you have 401K and/or ROTH space available?
Taxable account shoud come last.
Reread the thread again - for a moderate income of 35k, you are advocating saving half of your income, not to be used until retirement. For median families, you are talking a third.
There is a nonzero chance you will die before fifty. My great grandfather died of a heart attack at 45.
Saving some income to do enjoyable things before retirement is not a bad strategy, as long as you have your other financial priorities in order. Truly high rate debt - 15%+ - would come before that for me.
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Re: To whom does the advice "max out your 401k" not apply?
by leonard » Mon Feb 17, 2014 2:27 pm
One other thing on threads like this -
I wish people would spend more time devising strategies on Why? and How to? maximize 401k contributions, rather than expend the creativity and thought on how and why NOT to maximize 401k contributions.
Many don't want to save for retirement and just use these theoretical discussions on why it's "not optimal" to rationalize not doing it cause they don't want to or think they can't.
Leonard | | Market Timing: Do you seriously think you can predict the future? What else do the voices tell you? | | If employees weren't taking jobs with bad 401k's, bad 401k's wouldn't exist.
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Re: To whom does the advice "max out your 401k" not apply?
by MathWizard » Mon Feb 17, 2014 3:13 pm
jackholloway wrote:
MathWizard wrote:
Buffetologist wrote:While I'm a fan of Bogle, I'm also a fan of Dave Chilton's Wealthy Barber financial planning book.
He recommends a "10% fund" to build wealth just for the good things in life. Unless you don't plan on doing anything good until you are 55, this would go into a taxable stock fund account. I view this as basically "The Family Business".
I would prioritize the following:
1. 401K up to the company match. (No brainer).
2. 10% fund in taxable stock fund for wealth building.
3. Save for a home
4. Pay off high interest debt (student loans, car loans, credit cards)
5. Max out retirement but not if it causes you to incur more high interest consumer debt.
6. Save for kids college fund. Switch 5 and 6 if you know you won't be getting any aid.
I would suggest that 4 goes right after 1
I don't get #2. Why do you want taxable if you have 401K and/or ROTH space available?
Taxable account shoud come last.
Reread the thread again - for a moderate income of 35k, you are advocating saving half of your income, not to be used until retirement. For median families, you are talking a third.
There is a nonzero chance you will die before fifty. My great grandfather died of a heart attack at 45.
Saving some income to do enjoyable things before retirement is not a bad strategy, as long as you have your other financial priorities in order. Truly high rate debt - 15%+ - would come before that for me.
Yes, I missed the 10% for good things in life. My mistake was that I read wealth building and stocks. Those seem to be
two different things.
I do the "wealth building" and saving for college in my ROTH. Since they raised the limits beyond $2-3K
I typically have space in these. I can always withdraw contributions. I haven't had to actually withdraw the ROTH contributions,
just suspend contributing, since the discipline of contributing to the ROTH every year meant that that stream of income could
just be directed at college, and we could pay out of pocket.
I save for short-term in plain old savings acct. and CDs, not stock accounts, since I may tap these when an opprotunity
comes along, and I don't put money in stocks that I expect to need sooner than a decade out.
My wife and I do enjoy life. We had vacations to national parks nearly every year from when the kids were 6 until
they graduated from HS. Now they are in college, but my wife and I have still managed a few domestic trips plus
two trips to Europe in that time.
Note that #1 was not a roof over your heads or food to eat . I assumed that this list covered discretionary funds.
I can see the point of the 10% for a better life, but I still put high interest debt payment ahead of the "fun".
We got married in the realy 80's when even the prime rate was double digits. My subsidized student loans were 9%.
That is probably why I hate paying interest.
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Re: To whom does the advice "max out your 401k" not apply?
by Buffetologist » Mon Feb 17, 2014 3:19 pm
MathWizard wrote:
I don't get #2. Why do you want taxable if you have 401K and/or ROTH space available?
Taxable account shoud come last.
The whole point of the "10% fund" is to build accessible wealth. It's the cornerstone of the book's advice. He says it should be a higher priority than retirement savings. I'm all for retirement savings, but that doesn't need to be maxed out in your 20's if you have other obligations that you need to take care of.
This is not totally crazy. Capital gains receive preferential tax treatment, and not everybody will be in the 15% tax bracket at retirement. Also, taxable accounts get stepped up basis when you die. Leave money in your traditional IRA or 401K and your heirs will either have to liquidate it over 5 years or take required distributions over their lifetime. If your beneficiary is a kid, they are subject to the kiddie tax and they may end up paying the highest tax rates if their parents are.
Certainly, tax advantaged accounts should be used for retirement savings, and one should definitely save for retirement, but that's not the only goal in life. Chilton reasons that by creating an accessible endowment of wealth, life can be lived with much less financial stress. Quality of life is often measured by experiences. I happen to agree. Build up a $500K endowment and take a 20K vacation without worry. Build up $1 million, and that sailboat you've always wanted is not a huge deal.
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Re: To whom does the advice "max out your 401k" not apply?
by leonard » Mon Feb 17, 2014 3:26 pm
Buffetologist wrote:
MathWizard wrote:
I don't get #2. Why do you want taxable if you have 401K and/or ROTH space available?
Taxable account shoud come last.
The whole point of the "10% fund" is to build accessible wealth. It's the cornerstone of the book's advice. He says it should be a higher priority than retirement savings. I'm all for retirement savings, but that doesn't need to be maxed out in your 20's if you have other obligations that you need to take care of.
This is not totally crazy. Capital gains receive preferential tax treatment, and not everybody will be in the 15% tax bracket at retirement. Also, taxable accounts get stepped up basis when you die. Leave money in your traditional IRA or 401K and your heirs will either have to liquidate it over 5 years or take required distributions over their lifetime. If your beneficiary is a kid, they are subject to the kiddie tax and they may end up paying the highest tax rates if their parents are.
Certainly, tax advantaged accounts should be used for retirement savings, and one should definitely save for retirement, but that's not the only goal in life. Chilton reasons that by creating an accessible endowment of wealth, life can be lived with much less financial stress. Quality of life is often measured by experiences. I happen to agree. Build up a $500K endowment and take a 20K vacation without worry. Build up $1 million, and that sailboat you've always wanted is not a huge deal.
You've missed a few vital points.
1. Contributions to Roths are always accessible without penalty. So, not 100% tied up.
2. You can take "substantially equal payments" from retirement accounts before retirement age. so, again not 100% tied up.
3. Finally, you can do a "stretch IRA" and let heirs enjoy the money at lower tax rates. Again, using a retirement account.
I think more critical analysis of Chilton would be time well spent versus simply repeating Chilton on a website. Or maybe these are the auto repair manuals?
Finally, you have not addressed the poor prioritization I pointed out above. It simply makes not sense to prioritize either discretionary spending or children's college over retirement saving - in any case.
Leonard | | Market Timing: Do you seriously think you can predict the future? What else do the voices tell you? | | If employees weren't taking jobs with bad 401k's, bad 401k's wouldn't exist.
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Re: To whom does the advice "max out your 401k" not apply?
by an_asker » Mon Feb 17, 2014 3:28 pm
jackholloway wrote:
MathWizard wrote:
Buffetologist wrote:While I'm a fan of Bogle, I'm also a fan of Dave Chilton's Wealthy Barber financial planning book.
He recommends a "10% fund" to build wealth just for the good things in life. Unless you don't plan on doing anything good until you are 55, this would go into a taxable stock fund account. I view this as basically "The Family Business".
I would prioritize the following:
1. 401K up to the company match. (No brainer).
2. 10% fund in taxable stock fund for wealth building.
3. Save for a home
4. Pay off high interest debt (student loans, car loans, credit cards)
5. Max out retirement but not if it causes you to incur more high interest consumer debt.
6. Save for kids college fund. Switch 5 and 6 if you know you won't be getting any aid.
I would suggest that 4 goes right after 1
I don't get #2. Why do you want taxable if you have 401K and/or ROTH space available?
Taxable account shoud come last.
Reread the thread again - for a moderate income of 35k, you are advocating saving half of your income, not to be used until retirement. For median families, you are talking a third.
But Roth IRA contributions can be withdrawn anytime with no penalty. I agree with MathWizard - there is no reason to put money in taxable if Roth IRA space is available (especially for the low income category we are talking about here).
There is a nonzero chance you will die before fifty. My great grandfather died of a heart attack at 45.
Agree with the statement, though your great grandfather dying at 45 is probably not the best example - back then, the average life expectancy was likely in that range as well.
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Re: To whom does the advice "max out your 401k" not apply?
by Garco » Mon Feb 17, 2014 4:25 pm
Lots of good advice, even ordered lists.
In my case, employer mandates plus reality meant.
1. Mandated 401k contribution (5%), overmatched by employer.
2. Save for house downpayment, purchased about 5 years into career with 30-yr mortgage.
3. Save for college educations (2 kids, no financial aid).
4. Use supplemental options (SRA, 457b) beginning after last college graduation, increasing until maxed out at $23K the last couple of yrs.
5. Make last mortgage payment.
6. (coming soon) Retire on tax deferred investments and SS.
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Re: To whom does the advice "max out your 401k" not apply?
by leonard » Mon Feb 17, 2014 4:52 pm
Garco wrote:Lots of good advice, even ordered lists.
In my case, employer mandates plus reality meant.
1. Mandated 401k contribution (5%), overmatched by employer.
2. Save for house downpayment, purchased about 5 years into career with 30-yr mortgage.
3. Save for college educations (2 kids, no financial aid).
4. Use supplemental options (SRA, 457b) beginning after last college graduation, increasing until maxed out at $23K the last couple of yrs.
5. Make last mortgage payment.
6. (coming soon) Retire on tax deferred investments and SS.
Why exactly would you do the minimum on retirement savings and then prioritize kids college over the rest of it? Is that the catch all "reality" part?
Leonard | | Market Timing: Do you seriously think you can predict the future? What else do the voices tell you? | | If employees weren't taking jobs with bad 401k's, bad 401k's wouldn't exist.
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Re: To whom does the advice "max out your 401k" not apply?
by MathWizard » Mon Feb 17, 2014 5:30 pm
jackholloway wrote:There is a nonzero chance you will die before fifty. My great grandfather died of a heart attack at 45.
You don't have to tell that to me.
2 grandparents and a brother did not make it to 50. My father barely made it past 50.
That does not mean that I should live like there is no tomorrow. To me getting rid of high interest debt is better than
saving. You get a much higher rate of return.
The saving 10% for fun is probably after all the bills have been paid, and retiremnet is in place. What would the 10% have
been spent on instead? Higher lifestyle, more dinners out? Then the message about 10% wealth building is just deferred
gratification. Don't spend on cheap entertainment now, save on entertainment now and have lots of fun later. That is what
I have done. Everything was paid off except the mortgage before we ever considered traveling to Europe. That money came
from plain old savings.
I did have some money in taxable stocks after student loans were zeroed out and we bought a house, back when ROTH limits
were $2K/year. I dribbled that into ROTHs once the limit rose to $5K.
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Re: To whom does the advice "max out your 401k" not apply?
by Garco » Mon Feb 17, 2014 6:23 pm
leonard wrote:
Garco wrote:Lots of good advice, even ordered lists.
In my case, employer mandates plus reality meant.
1. Mandated 401k contribution (5%), overmatched by employer.
2. Save for house downpayment, purchased about 5 years into career with 30-yr mortgage.
3. Save for college educations (2 kids, no financial aid).
4. Use supplemental options (SRA, 457b) beginning after last college graduation, increasing until maxed out at $23K the last couple of yrs.
5. Make last mortgage payment.
6. (coming soon) Retire on tax deferred investments and SS.
Why exactly would you do the minimum on retirement savings and then prioritize kids college over the rest of it? Is that the catch all "reality" part?
a. My basic goal was to arrive at point 6 with zero debt for me and everyone in my family (kids). b. My point #1 involved a 15% retirement savings ratealready (employer put in 10% while I put in 5%). This was both the minimum and the maximum that I could contribute to my 401k. Do that for 38 years, and believe me, it really adds up. We succeeded, and when we had the basic goals covered we've used our last working years to pad the nest and max out supplemental tax deferred savings.
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Re: To whom does the advice "max out your 401k" not apply?
by bungalow10 » Mon Feb 17, 2014 6:28 pm
I've always done the max - but my employer has the max set at 15%, so when I was right out of college, there were years when my max was $8,750, $10,000, $12,000. I did a Roth to make up the rest.
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