How to Retire
as a Millionaire with your 401k Plan and 7 Strategies to Achieve
Growth of your 401k Plan
(January 28th, 2010)
above title how to retire as a millionaire with your 401k plan may
seem too catchy to you, but it is worth reading this article about
how one ordinary man named Knute Iwaszko became famously known as
the ‘401k millionaire.’ Author of the book ‘The
401k Millionaire – How I started with nothing and made a Million”,
Knute was not a Wall street hedge fund manager making huge salary
or CEO of Goldman Sachs, he saved for his retirement while earning
a $60,000 a year salary and paying the costs to raise 5 kids.
So you ask, how did he do it? First, he started
budgeting his finances and started saving in his early 20s. He learned
how to deal with routine monthly expenses and minimize them by living
within his means, as well as how to deal with unexpected expenses
such as medical bills, home repairs, etc. He also started participating
in his company sponsored 401k plan at a very early age. His journey
to start saving began in the early 1980s when 401k plans became
available. In fact, it was just 2 years after the IRS introduced
the Revenue Act of 1978 that then became the Internal Revenue Code
(IRC) Sec. 401(k). In the early 1980s, Knute started saving money
away in his company sponsored 401k plan while he was in his early
40s. During the same time, he was stacking money away in to a traditional
individual retirement account (IRA)
Upon leaving his employer at age 59, Knute had
$800,000 in his 401k plan and about $200,000 in his IRA. And it’s
been 5 years and Knute has not had to even touch his retirement
savings, largely thanks to the success of his book titled "The
401(k) Millionaire: How I Started with Nothing and Made a Million
- and You Can, Too." Having said this, saving up $1 million
before you hit 65 years of age seems like a very challenging task
for almost anybody, especially if you have to come up with all of
that money from your own pocket (earnings). The key to achieving
this is the power of compounding interest. As the old adage goes,
“Do not work hard for money; make money work hard for you!”
When you compound your interest, you take your original deposit
(principal), earn interest on it and plough back the interest to
the principal to form a higher deposit, which then also earns interest
on interest, which is what the concept of compounding is all about.
The longer you leave money in a compounding interest account, the
more it grows exponentially.
Rule of Thumb: Want to find
out how soon you will double your money? Use the rule of 72t. With
this rule, you divide the current interest rate you are getting
on your deposit and divide it from 72. For instance, if you are
currently earning 8% on your deposit, then you will double your
Double money = 72 / 8%
Double money = in 9 years
If we increase the 8% to 16%, then your money
will double in half the time, approximately 4.5 years.
Double money = 72 / 16%
Double money = 4.5 years
Financial advisors suggest the younger you are
when you start doing this, the more years of compounding interest
you will have and the more opportunity for your money to grow. Having
said this, how exactly can you save up $1 million in your 401k plan
before you turn 65 years of age?
Let’s crunch some numbers and start with
basic assumptions. Assume Sam currently earns 10% on his 401k investments
and is in the 15% income tax bracket.
i) Sam is 25 years old and contributes $6,000
a year ($500 a month) for 40 years until he hits retirement. His
principal balance at age 65 would be $3,188,390.00
ii) Sam is 35 years old and contributes
$6,000 a year ($500 a month) for 30 years until he hits retirement.
His principal balance at age 65 would be $1,139,663.00
iii) Sam is 45 years old and contributes
$6,000 a year ($500 a month) for 20 years until he hits retirement.
His principal balance at age 65 would be $382,848
iv) Sam is 55 years old and contributes
$6,000 a year ($500 a month) for 10 years until he hits retirement.
His principal balance at age 65 would be $103,276
As you can see, the older you get,
the harder it is to save up for retirement as the number of compounding
years is shortened. However, it’s never too late for anything.
Older people such as an investor who is 55 years old could increase
the amount of money they save each year, for instance increase the
annual savings from $6,000 a year to $15,000 a year. If this is
the case, here’s the impact on retirement savings:
v) Sam is 55 years old and contributes
$15,000 a year for 10 years until he hits retirement. His principal
balance at age 65 would be $258,190
Below we list some strategies to
help you bring your 401k plan back on track and achieve faster growth
to enrich your retirement objectives:
i) Start saving early in
your life and maintain consistency in your savings. By
doing so, you will be minimizing stock market risks as well as other
economic & systemic risks. By starting early, you will earn
more years of compounding interest and will have more time to recover
if your portfolio takes a hit due to bear markets.
ii) Max out your 401k contributions
and take advantage of employer matched contributions. On
Research 401k Rollover, we always stress the importance of receiving
matching employer contributions from your 401k plan. The aggregate
totals for both employer and employee contributions to a qualified
401k plan must not exceed $46,000 for 2008 and $49,000 for 2009.
You can personally contribute up to $16,500 in 2009 towards your
401k plan while the remaining amount can come from your employer
as matching contribution. Think of employer matching contributions
as an instant return on your money, if you get dollar for $1 of
your contribution, you are gaining an instant 100% return on your
Fact: The average
matching contribution from employers is 50 cents on every $1, up
to 6% of your annual compensation. Check with your Human Resources
department for specifics on your company's limits.
iii) Be eager to learn where
your 401k money is being invested. Take time to learn your
investment holdings, which ones are winners and which ones are losers.
If you have a pair of winning stocks and losing stocks, minimize
your losses by selling the losers at break even prices, while letting
your winners run up higher. Also if you invest in mutual funds,
be sure to pick established mutual funds with low fees, and avoid
those funds that put all of their portfolios in one or handful companies.
Iwaszko did not build his net worth to a million $ by chance, he
carefully studed all his stock mutual funds and which ones were
returning good percentages and which ones were underperforming.
He cut the losers and also joined an investment club that taught
him more advanced investing research skills.
iv) Look for the long term
and understand it's not always worth it to be too Conservative -
When you have a working time horizon of 10 years or more,
you should develop a modest to more aggressive investment strategy
in order to beat inflation and build up a high nest egg for your
retirement. Iwaszko says he started doing this in his 40s and became
very aggressive. Since then, he put all his money in stock funds
and had a great run up in the bull market. However, please note
that past results are not indicative of future performance, so it
is best to do research. Iwaszko suggests people sit down and assess
their investing & risk preferences, if a person has 30 years
time horizon, then he/she is able to take more aggressive risks.
However, if someone is set to retire in 5 years, then a more conservative
investing approach should be taken.
v) Always strive to keep
your money working for you - This is the purpose of compounding
anyways. You risk losing the power of compounding interest if you
take money out of your 401k account before you retire, thus it is
essential to leave the money in the account. Using your 401k plan
for your short term needs greatly fractures the power of compounding
interest and long term growth of your 401k account.
Tip: If you are making contributions to a 401k plan or an IRA, make
contributions in the beginning of the year as opposed to end of
the year. The reason for this is, you will earn more interest this
vi) Work as long as you
can - This concept is very simple, the more you work, the
more income you will generate and the more you will be able to save.
People who retire early greatly underestimate how much they will
need to survive and maintain their standard of living, or they are
unsure how long their savings will last.
vii) Diversify your 401k
investments - It is important not to risk all your assets
in one basket because while some industries in the world may be
booming, others may be going bust. If you fall your investments
in the bust category, you will lose money.