Investing, Personal Finance, Retirement 

Retiring Rich Means Using Your 401(k)

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A recent study by Putnam Investments, carried by CNNMoney, finds that the secret to retiring rich isn’t about where you invest but that you invest in the first place, specifically your 401(k). Putnam played around with some numbers for an Average Joe’s 401(k) and found, not surprisingly, that the single most important aspect of retirement was the contribution amount. While not ground breaking, it’s always nice to see mainstream media doing some responsible reporting.

They suggest a 10% minimum contribution level: My contribution is currently at 7% and that was lowered from as high as 20% because I was planning on buying a house (which I did). You should figure out the minimum amount required to receive your company’s matching funds, if they offer it, and put in as much as you can. If you had the chance to start when you were young and with fewer fixed expenses (homes hurt in the fixed, and variable, expenses department) then you should put in as much as possible. It’s better to put in a huge chunk now and then have it grow than to let contributions trickle in and sit on a fat checking account. Learn to live on a leaner budget and it’ll pay off in the future (I hope anyway).

Asset allocation trumps specifics: “A number of landmark studies show that asset allocation has a bigger impact on returns than the specific funds you hold,” says the article. I have nearly (95%) of my 401(k) in stock based funds. That may be a bit extreme for most people but I figured if they suggest that someone young should be mostly in stocks, I’d probably do well to put it all in stocks.

If you’re squeamish about being reckless like me, and you probably should, here are their tips for picking what to get:

Feel free to take the easy way out by opting for index funds. Or for an even simpler solution, go with a targetdate or life-cycle fund (offered by nearly 40 percent of plans), which gives you a diversified portfolio appropriate for your age.

{ 9 comments, please add your thoughts now! }

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9 Responses to “Retiring Rich Means Using Your 401(k)”

  1. Lauren says:

    I could put the max into my 401k, but then I couldn’t save up for a down payment for a house in this ridiculous market. It’s killer because I know my savings could go far considering I’m in my early 20s, but there are other priorities as well.

  2. jim says:

    Yeah, that was the position I was put in so I dropped it down the 7% it’s at now. It’s difficult but you can think of your home as an investment right? 🙂

  3. Rick says:

    I did the same exact thing as Jim did. When I started working, I was putting in the full 15%, but then I dropped it down to 6% (what my employer matches) when I got my first house. I have recently been thinking about upping it again and will be looking into that early next year.

  4. Neo says:

    I am planning to contribute 22% since I want to try and reach the $15000 maximum contribution for next year. Is there any reason this wouldn’t be advisable?


  5. jim says:

    I wrote a post in early November about how you should be wary, or at least concious, of your assumptions with regard to tax deferred accounts: Beware of Tax Deferred Accounts. Basically, your income taxes could be higher when you’re older for a lot of reasons…

    However, that being said, I still think if you can handle contributing the maximum, contribute the maximum. There’s more (pre-tax) money there to appreciate and you won’t spend it. 🙂

  6. Jonathan says:

    Also check to see if anyone is offering the Roth 401(k) in 2006.

  7. jim says:

    Well you can only get it from your employer and mine isn’t offering it unfortunately.

  8. Jim Robinson says:

    The point you make about about investing in ownership of your own home is also good one.
    Owning your own home seems like a great investment for retirement, lowering your annual
    housing costs to property taxes and repairs (or upgrades, to improve the value).

    I live in the Bay Area, so it’s going to be a long time before I can buy a house. For years now
    I’ve been thinking it is better for me to pour money into my retirement savings, while slowly
    building enough off to the side to make a down payment on a house someplace affordable
    (moving to the mid west, for example).

    If you’re interested in another theory book about index funds and asset allocations, you
    might be interested in “A Random Walk Down Wall Street” by Burton G. Malkiel. His theory
    is that it is far better to invest in broad segments of the markets via index funds than
    it is to try and pick the next set of hot stocks. He outlines many of the stock picking
    techniques used by brokers, and points out numbers which indicate random chance is as
    much a factor as skill with most of them. His theory is that the market is already very
    efficient at adjusting to news, and that it is therefore very difficult to win through active
    trading. He also has a decent coverage of regular and tax-free bonds and bond funds,
    and several other investment vehicles (buying your own home, etc.).

  9. jim says:

    One of the first books I ever read was A Random Walk Down Wall Street a few years ago and I loved it (and I agreed with it). I endorse the book as well and it’s still sitting on my shelf.

    I think the fact that your mortgage stays the same (minor increases for the escrow for taxes, etc) while inflation devalues the currency bit by bit is something people don’t really realize. In ten years my mortgage payment will be cheaper than it is now.

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