A report from Fidelity Investments released at the end of August 2013, states that the average 401(k) balance is now at $80,600, which is up nearly 11 percent from the same period last year. People who were continuously employed and in a 401(k) plan for the last 10 years had an average balance of $211,800, which is up nearly 19 percent from the same period last year. Over the last 4 years, more employees increased their 401(k) deferral rate than decreased it.
The report also states that, “Many younger workers – especially Millennials – aren’t saving at the recommended 10 to 15 percent of their income.” The report demonstrates how a 1% increase in 401(k) savings can improve the pretax monthly retirement withdrawal for a current 25 year old by up to $330.
The table below shows rates of return for two different hypothetical 401(k) participants. For each individual, it illustrates both the current “cost” and the impact a sustained 1 percent savings increase could have on their retirement paychecks using two different investment return rates: 5.5 and 7.0 percent nominal returns. The “costs” of $33 and $50 at ages 25 and 35 respectively are assumed to grow along with the individual’s salary at 1.5 percent per year until their retirement age of 67.
Hypothetical impact of 1% increase in 401(k) savings now on
estimated monthly retirement income
Current Age Current Salary Initial Monthly “Cost” of 1% Savings Boost Assumed Rate of Return Potential Monthly Pretax Increase to Retirement Paycheck 25 $40,000 $33 7.0% $330 5.5% $200 35 $60,000 $50 7.0% $270 5.5% $180
That $330 per month equates to an extra $3,960 pretax per year. The report also shows how saving an extra $50 per month into a Roth IRA can increase monthly retirement withdrawals by up to another $390 per month or $4,680 per year with no tax.
The table below shows the potential impact $50 per month could have on both the 25 and 35-year-olds using two different investment return rates: 5.5 and 7.0 percent nominal.
Hypothetical impact of $50 increase in Roth IRA savings on
estimated monthly retirement income
Current Age Additional Consistent Monthly “Cost” for IRA Investor Assumed Rate of Return Potential Monthly Increase to Retirement Paycheck 25 $50 7.0% $390 5.5% $230 35 $60 7.0% $220 5.5% $140
The 5.5% nominal return is a pretty poor return for a 100% stock portfolio, but is a reasonable rate of return for a 50/50 mix of stocks and bonds.
I am happy to see that 401(k) account balances are up compared to last year. To repeat, the 10-year employee group has an average 401(k) balance of $211,800. Assuming an annual earnings rate of 7% (with dividends reinvested) and a constant savings rate, sans fees, I calculate that the average annual employee plus employer match deposited $14,327 each year into their 401(k). (They probably deposited more, but fees took some of their money.) If we assume a continued annual earnings rate of 7% for the next 30 years, with constant deposits of $14,327, the employee will have a little over $3 million in their 401(k). Note that I did not account for any investment fees or inflation. An annual inflation rate of 3% would bring the $3 million down to approximately $1.52 million in today’s dollars. And low annual fees of 0.1% which are typical for passive index funds would bring the $1.52 million down to $1.49 million. Annual fees of 1%, which are typical for actively managed funds, would bring the $1.52 million down to $1.22 million. Note, that is an additional $270,000 paid in annual fees for active management.
So remember, keep investment fees low, and save as much as you can in your tax-deferred 401(k) or 403(b), and try to put something away in a Roth IRA, as well. The best is if you can maximize contributions to both your 401(k) and Roth IRA. If you cannot reach that, contribute to your 401(k) up to the amount to get the full employer match, then add up to the max to your Roth IRA. Any money left over can be used to fill out the remainder of your 401(k).
$1.22 million in today’s dollars added to Social Security benefits should see you through retirement, but more is obviously better.
How are your retirement savings doing relative to the Fidelity 401(k) average savings of $14,327 per annum? I am sure that everyone is aware that the maximum annual 401(k) contribution total for 2013 is $17,500 plus $5,500 if you are 50 or older. The Roth IRA max annual contribution is $5,500 plus $1,000 if you are 50 or older. Are your retirement savings above average?