To max out your 401(k) in 2020 or 2021, you’d need to contribute $19,500. If you’re 50 or older, you’re allowed to make a $6,500 catch-up contribution, so $25,000 is your maximum.
Let’s face it: $19,500 a year is a lot of money, particularly if you’re just starting your career. But if you can contribute the maximum to your 401(k) plan each year, it’s shocking just how fast you can become a millionaire.
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How to become a 401(k) millionaire by 45
Suppose you start maxing out your 401(k) at 25 and you invest it aggressively, meaning primarily in stocks. Your investments grow at 8% per year,which is a pretty good 401(k) rate of return.
If you’re paid biweekly, that means you’re investing $750 every two weeks. After about 20 years and five months, you’d hit 401(k) millionaire status.
That’s assuming no company 401(k) match whatsoever. Many employers offer either a partial or dollar-for-dollar match on your contributions up to a certain percentage of your salary. One common scenario: Your employer matches your contributions 50% up to 6% of your salary. In this scenario, you’d need to save a little less of your own money to reach your $1 million goal by 45.
This also isn’t accounting for the fact that the maximum contribution increases over time. The contribution limits increase in $500 increments about every two years on average.
Is maxing out your 401(k) realistic?
If you’re living on an entry-level salary, maxing out your 401(k) almost certainly isn’t realistic. Regardless of age, very few 401(k) savers actually do contribute the max. According to Vanguard’s 2020 How America Saves report, just 12% of plan participants made the maximum contribution in 2019, when the limit was $19,000.
In a lot of situations, maxing out a 401(k) shouldn’t even be a priority. Contributing enough to get your employer’s full match just about always makes sense. Beyond that, paying off credit card debt is a higher priority because the interest almost always costs more than you earn in returns. Funding a Roth IRA after you’ve received your company’s 401(k) contribution is typically a better way to invest because you’ll have way more flexibility with your investments.
How much should you contribute to your 401(k)?
A good goal to aim for is to save about 15% of your pre-tax income for retirement. Start by contributing enough to get your employer’s match. Then you can max out your annual Roth IRA contribution. For 2020 and 2021, you can contribute $6,000 if you’re under 50, or $7,000 if you’re 50 or older. If you have additional money to invest, then you can put it into your 401(k).
You might not become a millionaire as quickly as you’d like, but you can build a sizable nest egg by investing early and consistently. For example, suppose you started putting $200 out of your biweekly paychecks and got a 50% match from your employer. Assuming the same 8% rate of return, you’d have $1 million right around age 55. Maybe it’s not as sexy as becoming a millionaire at 45. But it’s a lot more realistic than contributing $19,500 a year to your 401(k) from the time you’re 25.