- Bargaineering - http://www.bargaineering.com/articles -

401k Front Loaded versus Incremental Contributions

Let’s say in a fictional world you have enough money and you are paid enough money that you can contribute the entire amount allotted for a 401k pre-tax contribution in one lump sum at the end of January. Then, let us also assume that your 401k appreciates 1% each month for an annual yield of 11.56% (it’s only 11 months because your January contribution comes at the end of the month), which is a close enough approximation of the S&P’s historical growth. Is it significantly beneficial for you to contribute it all at once or incrementally? ($1272.72 a month, which would put you 8 cents shy of $14k, but accurate enough…)

Well, I’ve wondered so I put it in Excel to see if it really mattered… and it does matter. Given those assumptions, the year end difference amounts to about $743. That $743, which doesn’t seem like a lot, accounts for over half the gain of the lump sum contribution and 4.81% of the value of the total lump sum contribution account. Below is a table:

Month Incremental Total Lump Total Difference
jan $1272.72 $14000 $0
feb $2558.17 $14140 $127.27
mar $3856.47 $14281.40 $243.09
apr $5167.75 $14424.21 $347.34
may $6492.15 $14568.46 $439.91
jun $7829.79 $14714.14 $520.67
jul $9180.81 $14861.28 $589.51
aug $10545.34 $15009.89 $646.32
sept $11923.51 $15159.99 $690.96
oct $13315.47 $15311.59 $723.33
nov $14721.34 $15464.71 $743.29

(Difference refers to the difference in gains)

This is in the optimal case (market is rising, you buy in at the cheapest point with a front loaded 401k) with a lot of assumptions that don’t necessarily hold true. If the market drops, you would lose more in the front loaded 401k than if you contributed incrementally. This is also sort of an analysis of the “dollar cost averaging” concept where you enter a position incrementally. If you believe in dollar cost averaging then you would never consider a front loaded contribution into your 401k.

I don’t know anyone who really front-loads their 401k, none of my friends make enough for this to be even feasible, but it also appears that it would make a significant difference. So if you make enough or have faith in the market, try to contribute as much as you can as early as you can (why some people contribute to a Roth as soon as possible). If you want to go the way of dollar cost averaging, then keep doing it the old fashioned way, a little bit at a time.