Your company’s matching contribution in your retirement plan is a powerful tool to help accelerate your retirement savings. However, even the most sophisticated retirement savers leave matching dollars on the table every year. To make sure you get the most from your company match, make sure you follow these three simple tips in 2022.
Will Maxing Out Early Max Out Your Match?
This basic logic can be sound. Many people like to “max out” their 401(k) contributions early in the year. They want to get their money working in the markets as quickly as possible. However, if your company does not make a true-up contribution at the end of the year, you save your company money and leave matching dollars on the table.
To illustrate this, let’s assume you make $120,000 a year, and your company matches your 401(k) contributions dollar for dollar up to the first six percent (6%) you contribute. You should receive six percent of your pay or $7,200 in matching contributions on paper. However, if you max out your contributions early, the table below show how you will leave matching dollars on the table.
Remember, the company match is calculated as dollar for dollar up to the first 6% you contribute. The first 6% percent of a $5,000 semi-monthly paycheck is $300. Unfortunately, that is the way the matching math works. When you max out your 401(k) contributions early, you will likely leave behind 401(k) matching dollars. In this case, the individual maxed out in three months, and received $1,800 in matching. This leaves $5,400 on the table in company matching dollars. You can rerun the example where you max out in six months, nine months, etc., you will still come up short regardless.
There is one potential lifeline in your plan. If your company calculates the match on an annual basis and makes a “true-up” matching contribution at the end of the year. If this is utilized in your plan, your company will make you whole for any match you missed during the year. Keep in mind, according to the PLANSPONSOR 2021 Defined Contribution Survey, only one in three companies do this. If you are going to rely on your company to make a true-up contribution, best to confirm they will provide that for 2022. Also, policies around whether matching contributions will be trued-up can change from year to year.
Your first match tip for 2022, try to spread your 401(k) contributions out over all of your paychecks for the year. To do that, calculate the percentage of your pay or a flat dollar amount per paycheck that will keep your contributions going until the end of the year.
Take It To The Limit
The classic adage to save at least as much in your 401(k) as your company provides a match on still holds true. However, over the last few years, the trend has been for companies to “stretch” their match. Companies are raising the target contribution rate for their employees to receive the full company match. Many 401(k) matches were based on a 3% or 4% target contribution in the past. It is more common now to see match formulas use 5%, 6%, 8% or higher as the target match contribution rate. The motivation behind this trend is to encourage you to save more money towards your eventual retirement. Behavioral finance research continually shows that the most significant concentration of savings rates in retirement plans are at the target match rate. However, with target match rates increasing and automatic enrollment rates set under the target match rates, many are unknowingly leaving money on the table. Finally, it is very common for new employees to choose a flat dollar amount per paycheck to contribute to the 401(k) when they first enroll. If they have been with the company for a while and their pay has increased, they could also find themselves saving below the target match rate for their plan. According to Vanguard’s 2021 How America Saves report, 1 in 3 people contributed below the savings rate needed to receive the full company match.
Your second match tip for 2022 is to confirm your company’s match formula. Specifically, know what you must contribute as a percentage of your pay to take full advantage of it. Then, adjust your savings rate accordingly.
Check Your Sources
Your company’s 401(k) plan will also define what types of salary deductions they will match. Commonly, companies will match on both your pre-tax and Roth 401(k) contributions. However, very few companies provide a match on after-tax contributions. These contributions have increased in popularity in recent years as more individuals seek to take advantage of the Mega Backdoor Roth concept. Some individuals even go so far as to designate all of their 401(k) contributions as after-tax. In concept, this would allow them to maximize the dollars they could convert to a Roth 401(k) and capture the associated tax advantages.
Your third match tip for 2022 is to know what types of contributions your company will provide a match on. Be sure you contribute enough through pre-tax or Roth salary deductions to get the full match from the company. Then, contribute after-tax dollars if available or desired.