A word of caution before you “Max-Out” your 401K contributions. If you don’t plan carefully you may be leaving money on the table.
Ask most financial gurus and they will all tell you the same thing: “Max out your 401K!” Named (creatively I must say) after section 401 (k) in the United State’s Tax Code, the 401K has become the preferred investment vehicle for many Americans saving for retirement. Benefits include allowing you to defer taxes on your income like Traditional IRAs (Individual Retirement Accounts), and as an added incentive employers often will match your contributions up to a predetermined amount. A typical example would be a company matching your contributions dollar for dollar up to 3-6% of your annual salary. With this money you are then free to invest in various mutual funds, bonds, and money market accounts that your employer has pre-selected.
Before arbitrarily setting your payroll deduction percentage to the maximum you may want to consider the following. Current law allows individuals under the age of 50 to contribute up to $15,500 in their 401K plans (2008 Tax Year). Once your account reaches this limit your company will discontinue your contributions until the beginning of the next tax year. Unfortunately, they will also discontinue their matching portion as well since you are no longer contributing. Albeit a technicality, very few employers have created fixes for this. Protect yourself from “leaving money in the trees”.
If you feel you may be close to reaching the IRS limits you can do a simple calculation. Multiply your current payroll deduction percentage by your projected annual salary. Be sure to consider any associated overtime or scheduled pay raises in your projection as well. If your calculation exceeds $15,500 you may want to consider reducing your payroll deductions so that you meet your IRS limit on your last paycheck of the year.
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{ 9 comments… read them below or add one }
I never thought about that before… although I’m no where close to maxing out my 401K… when I get there that is definately something to think about. Good post.
Maybe I am missing something but I don’t see the issue here. For example, if I contribute $1,291.66 a month ($15,500 yr), my company will contribute $38.74 a month (3% match totaling $465 a yr). But if I contribute more a month, say $8,000 (as an extreme example) I would receive a match of $240 for the first month (3%), and in the second month my company would only allow me to contribute $7,500 ($15,500 yearly limit) and match that with $225(3%). $240+$225 =$465. The comapny contribution is the same for both cases.
what you are missing is that your 3% company match is not a percentage of your contributions, but a match of that pay periods total salary.
To make it simple, if your salary was $100,000. Your company match would be $3000 a year as long as you put in at least 3%.
Ben —
So help me out. I make $110,000 per year and put in 8% to my 401K, my company matches 8% Dollar for Dollar so am I putting in to much money to my 401K? Should I be putting some in my IRA?
JM
JM,
Remember you’re allowed to put in up to $15500 this year. I would max out this contribution and if you can afford to I would put money in a Roth IRA above and beyond your 401k. Be careful though, if you are not married your eligibility for a Roth IRA begins to fade once you get past $95000 Adjusted Gross Income. You may only be eligible for a Tradition Roth.
A simpler way to get your full company match is to devide $15500 by your total # of pay periods and make sure you don’t exceed it.
I think I follow you Ben. Since they are matching 3% each pay period, if you maxed out your contributions half way through the year, the entire second half of the year you would not be eligible for the company match. Since you are no longer making contributions they are no longer matching.
Another stragey if you earn too much to contribute to a Roth IRA is too make non-qualified contributions to a Traditional IRA. Beginning in 2010, the IRS will allow these non-qualified Traditional IRA Contributions to be converted to a Roth IRA.
Actually company matches do not affect the contributions. My own companies and DH’s 2 companies we’ve maxed out the 401k and the match has gone in regardless.
It says so in the print that the match does not count towards the $15.5k. It says so in the IRS handout as well. If your company does, then you take the IRS file to HR and they will change it.
In our 401k at fidelity also it says specifically employee contributions and employer contributions. This way you can see your $15.5k going in and how much the employer puts in.
Reasonable comment- the max is $15,500 per year.
To reach the max a person making $155,000 would have to contribute 10% to 401k to reach the max.
Or a person making $77500 per year would have to be contributing 20% per year to hit the same $15,500 limit.
If you are looking at leaving money on the tree, my first comment would be- get the 401k to be maxed, then solve the match problem. Do not stop increasing 401k contributions for fear of this happening until you get close.
A person could make 73k a year and contribute 11% (~$8000 contribution per year) and they are just under the half way point to the max. A 3% raise ($2190) puts the 401k contribution to ~$8300- so if you are thinking this affects you, you would be the type of person which got that 3% raise and then increased 401k contribution from 11% to 14% to squeeze the budget and save more.
Isn’t it the case for most plans that the company matches to a certain contribution level, below the maximum contribution, and that additional contributions go to a separate, supplemental, plan?
In that case, some one who maxes out their contributions would see them stopped before the end of the year, but only in the plan that isn’t matched.