“This post may contain affiliate links. Please read my disclosure for more info.
If you’ve entered the working world recently you may have been faced with a lot of decisions to make during the hiring process. Tax forms, health care choices, life insurance, and possibly the opportunity to open a 401k plan. Here’s why you absolutely should not pass up the opportunity to open a 401k.
A common feeling among people entering the workforce is to try and minimize the deductions from your check. After the payroll deductions combined with the cost of rent, a car payment and maybe a student loan, you may be lucky to afford a tank of gas.
But why should you absolutely not pass up the chance to open a 401k?
Table of Contents
Because quite simply, it could make you a millionaire – but most likely, only if you start now.
If you’ve only been in the working world for a few years, age 50 seems like it’ll take an eternity to reach. But believe me, blink and you’ll be 30.
Blink again and you’ll be 40.
If you’re paid every two weeks and make even a small contribution into a 401k, that’s 240 regular contributions over 10 years! When you combine those with an employer’s matching contribution and add compound interest, you’d be amazed at how fast your money can grow.
For instance, many employers offer a 401k where they’ll contribute 50 cents for every dollar you contribute, up to about 6%. So if you contribute 6% plus their 3% then you’ll have 9% of your pay deposited into your account.
If you don’t take advantage of that, you’re literally leaving thousands of dollars on the table.
The possibilities
Suppose you get your first job at 25 with a salary of $35,000. You open the account and contribute 6 percent to it ($2,100/year). Your employer would then kick the 50% match of $1,050/year.
Where else is someone going to hand you $1050?
This works out to about $40 per week taken off the top of your salary so you never see it. So with their match, you’re saving $60 per week. If you’re young, you’d probably be investing it in stocks but I’ll still assume a modest rate of 7% on your savings. After two years you’d have over $7000 put away!
And what happens if you kept contributing?
Let’s say you kept contributing your 6% and got your employer’s 3% match. Once you’re used to the deduction, you won’t even notice it. And for the example, assume you get a 2% raise each year. If you retired at 65, you’d have over $834,000!
And if you raised your contribution to 8% you’d walk away with $1,019,903.
Every Journey Begins With a Single Step
The key is to start it. Even if you think you can’t afford another deduction, believe me, you can’t afford NOT to open a 401k as soon as possible. Start as small as you want, but just get it opened! Once you do, it’s almost on auto-pilot.
Even if you start with 2% just to get the account opened. You can probably bring lunch a few days a week and recoup the money. Once the account is open, it’s simple to log in and check the status or increase the amount of your deduction.
My suggestion is, each time you get a raise, bump up your contribution by at least 1%. Before you know it, you’ll have a nice chunk of change socked away on a regular basis and you won’t even feel it. And seeing it grow will motivate you even more.
Why You Need to Act in Your Twenties – Not Your Forties or Fifties
Burton Malkiel, the author of the bestseller, A Random Walk Down Wall Street, gave a good example of how making small sacrifices early in your career, makes all the difference.
He described two imaginary guys, William and James. For the example, they each deposited the same amount, $75 per week into a retirement account that earned on average, 10% annually.
The difference was, that William started depositing money at age 20. He saved the same $75 a week until age 40. Just twenty years. Then he worked 25 more years without saving another dime until retirement at age 65.
James got a bit caught up in having a bigger home, new car, nicer toys. So he appeared wealthier, but because of the debt payments, he didn’t start saving his $75 a week until age 40. But he continued until age 65 – five more years than William.
So as they’re both 65 and ready to finally enjoy what they hope is a few decades, how’d they do?
James, after saving for 25 years, walks away with $400,000.
William, after saving for 20 years, has 2.5 million.
And if they both withdraw money using the 4% per year rule, William will live on $100,000 per year, while James can only depend on $16,000 per year. So unless James has some other source of income, he may be donning the blue apron while William is off fishing.
That’s the trap so many of us fall into in our twenties once we start making a ‘real’ salary. We think we have decades to save, but the money for those new car payments, a boat and a house full of furniture could literally be the money your future self needed.
Why Else Is a Retirement Account So Critical?
Most employers used to contribute to a pension plan in your name where you were able to accumulate a nice nest egg. The pension plan, together with Social Security would be the main sources of your retirement income.
Not anymore.
Most employers are either phasing out their pension plans or not offering one to new employees.
Now the responsibility is on you to fund your own retirement savings. Social Security alone will be a fraction of what you’ll need to pay for your living expenses. The bulk of your income in retirement will come from your own savings.
Final Points
The days of getting a job at 24 and retiring from the same company are long- gone. You may not want to work your entire career for one company. But today, if you work 7-10 years for one company then you’ve outlasted the average employee.
So if you’re going to have four, five or more employers in your career, you need to take charge. You can do that by having your own account that you can roll over into each successive job.
Here’s another reason to open your own retirement account as soon as you possibly can:
Do you really want to work until you’re 70?
Sure, life expectancy now is into the 80’s. But what about that trip to Italy, or snorkeling in Cozumel. I don’t want to finally hike Yosemite with an oxygen tank in my backpack.
Wait to start saving until your 40’s or 50’s and you will be working most of your healthy years.
Putting a priority on paying yourself first, starting in your 20’s is a pretty safe road to becoming a millionaire. But really, when all is said and done, attaining “millionaire” status isn’t really even the goal. It’s being able to get up in the morning and do whatever the hell you want.
Those 15-20 extra years make all the difference.
