How Much Should I Contribute to My 401(k)?

 

Contributing to your 401(k) is a smart financial move that can set you on a path toward a secure future. But should or could you contribute your entire paycheck or salary to your 401(k)?

In today’s post, I’ll explain some factors to consider if you’re thinking about contributing your entire paycheck into your 401(k).

What is a 401(k)?

Before we get started, I first want to define a 401(k). A 401(k) is a type of retirement savings plan that is offered by many employers. When you contribute to your 401(k), you’re contributing a portion of your salary to help save for your future.

The money you contribute is pre-tax dollars, which simply means that it goes into your retirement account before it gets taxed. You’ll then pay the tax on the money when you take it out during retirement. The money in your 401(k) is typically invested in stocks and bonds so that the amount has an opportunity to grow prior to your retirement.

Can I contribute my entire paycheck into a 401(k)?

You likely can’t contribute your entire paycheck into a 401(k) because the IRS sets annual contribution limits for how much you can contribute. They do this to prevent excessive tax advantages that come from contributing pre-tax dollars into a 401(k).

In 2024, the annual contribution limit for a 401(k), 403(b), most 457 plans, and the federal government’s Thrift Savings Plan is $23,000. If you’re 50 or older, you can also make a “catch-up” contribution of up to $7,500 for the year to these types of accounts.

Should I contribute my entire paycheck into a 401(k)?

Even if you could contribute your entire salary into your 401(k) account, that’s probably not a wise decision. You’ll likely want to spread out your investments and ensure that while you’re saving for your future you’re also mindful of your current financial needs (more on this in a minute).

How much should I contribute into a 401(k)?

How much you should contribute into your 401(k) really depends on your individual circumstances. However, when clients ask me this question, my first recommendation is always that they should make the most of their employer matching, if that applies to them.

For instance, if your employer will match your contributions up to 2% of your salary, then you should at least be contributing that 2%. After all, if your employer is giving out “free money” to help with your retirement, then you absolutely want to take full advantage of that.

Another important consideration when deciding how much to contribute is to make sure that you have a good balance between saving for the future and meeting your current financial needs. Here are some factors to consider:

  • Emergency Fund: Do you have an emergency fund? It’s wise to have some savings set aside for unexpected expenses like medical bills or car repairs.
  • Budgeting: If you haven’t created a monthly budget, now is the time. This is the only way to really hone in on the right number that you should contribute to your 401(k).
  • Debt: If you have high-interest debt, then you’ll want to think about how keeping that debt can erode your financial stability. Take steps to pay off this debt as soon as you can.
  • Financial Goals: Think about your short-term and mid-term financial goals like eliminating debt, starting a family, buying a home, and other high-dollar decisions. These goals should play a part in your decision-making when it comes to saving for retirement.
  • Diversification: While contributing to your 401(k) is a sound strategy, it’s also important to diversify your investments. This is the “don’t put all your eggs in one basket” approach to savings, and it makes a lot of sense. Look for other investment options for your money such as individual retirement accounts (IRAs).
  • Income Changes: Think about any significant income changes you expect to have in your future. This could include things like salary increases, bonuses, work reduction, or planned expenses like paying for education for yourself or your children. Adjusting your contribution amount for income changes you know are coming in the future should be part of your retirement planning as well.

Although I like where your mind is at with the question of whether you can contribute your entire paycheck into a 401(k), it’s really not an option for most people. But I hope that I’ve given you a clear picture of what all should be considered when deciding how much you will contribute into your 401(k) this year.

For more retirement savings information from an accountant’s perspective, don’t miss my other articles related to retirement:

How to Change Accounting Methods Using IRS Form 3115

How Donor-Advised Funds Lower Your Tax Bill

 

Amy Northard, CPA

The Accountant for Creatives®
+ taxes + bookkeeping + consulting
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