Free money is free money no matter how you look at it. Can you believe that every year millions of employees miss out on their employer’s 401(k) match? This is the best kind of free money because you don’t have to do much to take advantage.
So what do you have to do? Simply be aware of when you contribute and how much you contribute to your retirement account. If you make a mistake with either of these details, you may not be getting the full benefit.
Before we look at an example, let’s talk a bit about when you contribute to your 401(k).
Did you know that contributing too much money early in the year could lead to thousands of lost dollars by way of your free employer match? This is not something that many people think about. Instead, they believe that as long as they contribute they will be taken care of. This it not always true.
It is important to note that not every employer uses the same formula to calculate the match. With this in mind, the calculation can often lead to employees missing out on money that they otherwise could have received.
Here is a common method used by many employers: A particular amount of money is contributed with each paycheck, based on what the employee contributes. For example, the employer will match 50 percent of an employee’s contribution up to the first 6 percent.
Sounds nice, doesn’t it? This free money can help grow your retirement account, but only if you get what is coming to you.
In the situation above, an employee who saves only 2 percent of his or her salary is missing out on more than half of the potential match.
Note: your employer is not going to give you the full match for no reason. If you don’t contribute what you need to, you can’t expect them to pick up the slack.
Now, let’s move on to the potential issue with contributing too much money too early in the year.
Here is a brief excerpt from Forbes, setting up a common situation that employees face: “Take an employee under age 50 earning $240,000 who elected to have 25 percent of salary deferred at a company that provides a 50 percent match on the first 6 percent of compensation. (The company kicks in its matching amount each pay period that the employee contributes). She would have contributed the maximum $17,000 by April 15, giving her a match of $2,100. By contrast, if she spreads her contributions throughout the calendar year, she would get a match of $7,200.”
How crazy is that? If this person had contributed evenly throughout the calendar year, she would have received another $5,100 in free money.
Fortunately, some employers opt for a plan with a “true up” feature. This can be a lifesaver for those who are interested in contributing more at the beginning of the year. With this feature, your employer will look at your entire account to determine if contributions spread out evenly would have resulted in a larger match. If this is found to be true, the employer will add the additional match to your 401(k).
This leads to one very important question (hence the title): What can you do to maximize your employer’s 401(k) match?
If you have not taken full advantage of your employer’s matching contribution in prior years, you need to find out what is holding you back. For example, you may be contributing so much early in the year that you are hitting your limit but not getting the full match. Or maybe you aren’t contributing enough.
In a perfect world, you would reach the IRS limit (but not exceed it) while ensuring that you get the full employer match.
How is this possible? You could speak with your benefits administrator. Or use this 401(k) calculator.
There are three categories that require your input:
- • Assumptions: pay period frequency, current annual income, and age at the end of the year.
- • Primary Matching Schedule: employer match, up to
- • Secondary Matching Schedule (if applicable): employer match, on next percentage
For a better idea of what the calculator can do for you, let’s input some round numbers to see what it spits out. Let’s assume a bi-weekly pay period frequency of an employee with a $100,000 a year salary, who will be turning 45 at the end of the year. Also, let’s assume a 50 percent employer match up to 6 percent. For the sake of this calculation, we will leave the secondary matching schedule blank.
The results: “It appears that the optimum yearly contribution for you to make in order to maximize the dollars your employer will contribute and not exceed the employee IRS limit on contributions is 17%.”
If you follow through with these numbers, you will be within the IRS limits with a total yearly contribution of $20,000.
Simply put, if you are not taking full advantage of your employer’s 401(k) match you are leaving money on the table. Over the course of your career, you could miss out on tens of thousands of dollars by making a simple mistake. Do you really want to take that risk?