For many, the ultimate in luxury and financial stability is to become a millionaire. There was even a game show that used to be called “Who Wants to be a Millionaire?”. Now, whether or not that is a goal that you should be shooting for is a topic for another time. My goal today is simply to show you how that might be possible if you have access to an employer sponsored 401(k). Now, a couple of things to remember. A 401(k) plan is a retirement plan offered through your employer that allows you to contribute a portion of your income pre-tax. Oftentimes, employers also offer a matching contribution to further help their employees save for retirement.
In this example, let’s assume that the employee in question is 30 years old and intends to retire at age 65 (35 years away). Let’s also assume that the employee makes $55,000/year and receives a dollar-for-dollar match of their contributions from their employer up to 3% of their salary. To put it simply, if they contribute 3%, then their employer contributes 3% for a total contribution of 6% of their salary. Assuming that the employee takes full advantage of that match, they would contribute a total of about $3,300/year (of which half, $1,650, are employer contributions). Over the course of 35 years the employee would contribute a total of $57,750 which would be doubled to $115,600 by way of employer contributions. This of course assumes that the employee receives no raises during that time period or cost of living adjustments (which seems unlikely). The last assumption that I would like to make is that the employee has an average annual return of 7% on their investments inside the 401(k). Admittedly, 7% would be rather low given the historical performance of the markets however, let’s use this number as a conservative estimate.
If we were to plug all of those numbers into a time value of money calculator (I like this online version here) then we would see that the employee would end up with a balance of about $456,182 at retirement. That is no small chunk of change but it isn’t the $1 million that we were looking for! So, what would the employee have to contribute in order to reach their goal of $1 million in their 401(k) at retirement? Well, if we make all of the same assumptions and plug those numbers into our TVM calculator it gives us an annual contribution of $7,234. If we subtract out the employer’s annual contribution of $1,650 that leaves an annual employee contribution of $5,584 which is about 10% of their annual pay. This equates to approximately $465/ month or $232.50 if you are paid bimonthly. What if the employee reallocated their account and was able to achieve an annual return of 8%? Well, in that case they would need to contribute about $317.31/month to reach their goal. Therefore, we can reasonably assume that in order for a 30-year-old individual making a salary equal to the national average with access to a 401(k) plan with a 3% dollar-for-dollar match with a goal of $1,000,000 at age 65 would need to make a monthly contribution of (drumroll please):
$317 - $423
7.5% - 10%
Well folks there you have it! The exact plan of action that you need to take in order to retire with $1,000,000! Or is it? Actually, there are some other factors that we need to consider including taxes, inflation, and sequence of returns risk. However, we will save that conversation for my next post!
Thank you all for taking the time to read this week’s blog and please consider sharing this post with a friend or loved one who you think would find value in it.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. This is a hypothetical example and is not representative of any specific situation. Your results will vary. The hypothetical rates of return used do not reflect the deduction of fees and charges inherent to investing. All investing involves risk including loss of principal. No strategy assures success or protects against loss