3 Reasons Why I’m Not Maxing Out My 401k

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All you personal finance geeks, get your gasps ready….

I’m not maxing out my 401k.

Am I nervous about it?

No.

Do I think I’ll change my mindset in the near future?

Nope.

Would I tell you to max out your 401k?

Probably not….

3 Reasons Why I’m Not Maxing Out My 401k

It seems like an absolute sin in the personal finance world, but I’m just not a big fan of maxing out my 401k. Why not? There are actually quite a few reasons. Three to be exact…

not maxing out my 401k1) I’d Rather Pay the Taxes Now

Most people love investing in their 401k because it’s tax deferred – meaning, if they invest the money today, they can avoid paying taxes until they take their money out later.

This is great and all….but here’s my take on it:

The United States’ national debt has more than tripled since 2001. In just a few more weeks, we’ll top the $20 trillion dollar mark. Chances are that as the debt continues to rise, the tax rates on the citizens will increase as well.

It only makes sense, right? The government earns their money from the country’s people. If the government doesn’t have enough money to pay their bills, then they need to earn more money…which means the people will have to pay more (ie. a higher income tax rate).

So if you can afford to pay cheaper taxes now vs. more expensive ones later, why wouldn’t you?

Secondly, I don’t make that much money today. My wife and I earn less than $100k a year and the majority of our earnings are taxed at the 15% federal tax bracket.

Because we save and invest two-thirds of our income, we’ll likely be multi-millionaires when we retire and will earn far more in the future than we do today. Therefore…heck yes I’d like to pay the taxes today!

So…would I like to start maxing out my 401k?

Ummm, no thank you.

2) We Might Want to Retire Early

Liz and I are on track to become millionaires long before we turn 65. Heck, we might even crack the 7-digit mark before we turn 40!

I understand that things don’t always go as planned (and I’m okay with that – after all, money isn’t everything), but even if we only earn half as much as I’m projecting, we’ll still have a fantastic chance at retiring early.

Soooo, if we’d like to retire early, why would I want to put a bunch of money into a fund where I’ll be penalized for an early withdrawal? (before 59 1/2 years old)

That doesn’t make a whole lot of sense does it…?

Umm, nope, it doesn’t.

3) I Like to Have Control Over My Money

Here’s the plan of 95% of the population:

  1. Set up an automatic withdraw to put money into a corporate 401k
  2. Ignore it for 40 years
  3. Hope that all the funds increase enough so you don’t have to eat SPAM in retirement

It’s a pretty crappy plan and I’m just not willing to sign up for it.

Instead of putting my money into the stock market and crossing my fingers, I’d rather have a little bit more control. For this simple reason, I’m just not too excited about maxing out my 401k.

So How Do We Invest Our Money?

Okay, so it’s pretty obvious at this point. I don’t simply max out my 401k and assume that the stock market will take care of my future. Our investing method is a little more involved than that. But, it’s really not all that complicated.

Here’s the basics of how we invest our money:

  • I invest 7% of my corporate income into a Roth 401k, my employer contributes 10%.
  • We invest 66% of our take-home pay into our next rental property purchase (Want to know how we’re able to invest so much of our income? Follow This Plan).

That’s it. It’s not fancy. It’s not sophisticated. It just makes sense, and it works for us.

How about you? Are you maxing out your 401k? How do you invest your money?

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15 comments to 3 Reasons Why I’m Not Maxing Out My 401k

  • Adding to reason 1 – You are already depositing 10% to your 401(k) pretax side, via your employer. That’s probably enough to use the zero/10/15 brackets (if they all exist) when you stop working. If it weren’t for that match, I’d have suggested some smaller amount go in pretax, but not yet, only when your income pushed you to the 25% marginal rate.

    To point 2 – if you retire at 55 or later, the 401(k) can de distributed each year with no penalty. (I was 50 when I retired, but my wife was post-55, so we started retirement by tapping her 401(k) account.) If you are under 55, it’s a simple process to take withdrawals under Sec72(t) rules, and still pay no penalty. But, again, your plan appears pretty sound, and this would only apply if your situation changed, or for readers with a different portfolio.

    Point 3 – We are blessed with a 401(k) with an S&P option from Vanguard, VIIIX, sporting a .02% (That’s 1/100 of 2%) fee. Ignoring that for 40 years would literally be better than about 90% of what investors have done over the past 4 decades.

    Bonus point – In theory, the 401(k) lets you save money off the top, at 25% or higher, but then withdraw in retirement at an average rate including the low brackets. Your taxable account offers you something far more attractive, the zero % cap gain rate for those in the 15% bracket or lower. If you are mindful of this as you invest and re-allocate your portfolio, you can raise your cost basis each year with no tax bill. Retiring with a few million in a 401(k) is great, but retiring with with those millions carrying little to no embedded gains? Priceless!

    • Joe, I always love your comments. They’re always such a great add to my articles!

      1) Correct – they contribute to my 401k since they can’t match in the Roth

      2) Yup – you can set up a one-time consistent draw with no penalty, but this is a loop-hole that might not be around when I want to retire. So I’m not banking on it.

      3) It may be okay to ignore it given the track-record, but it still makes me nervous to be 100% dependent on the stock market.

  • Dani

    We actually are maxing out my 401k, but that’s because it’s a Roth, and through Fidelity, so we actually have access to some pretty incredible options in our retirement portfolios, and the company matches 6% of my contributions, plus an annual “profit sharing” contribution that has historically been 6-7% of the annual salary, and I can direct how each type of contribution is invested.
    That being said, hubby works for a non-profit, with a paltry match that we actually could earn more than that by investing the same funds outside of the 403b that they offer (massively crappy funds with high fees, etc.). We might be able to retire a few years early, and if we do, we’ll be able to tap into the original contributions made into Roth IRAs without penalty even before 59 1/2, but honestly, we waited too stinkin’ long to begin saving, so we’re way behind.
    In our area, real estate investing BEGINS at $275,000 for C-class properties that attract C- and lower-grade renters, which we have no interest in doing! We have recently begun to discuss house-hacking via a triplex or something similar (again, in our area, for a decent place, might run upwards of 1 mil), but it can be a difficult transition to stomach, having attached-via-a-wall neighbors, when we’ve been single-family-dwelling residents for as long as we have. We are totally jealous that you can find decent rentals in your area for what you do, or we’d have a completely different retirement plan!

    • Hi Dani. Even though you might be behind, at least you get an awesome match! Keep that up and you’ll bank some really nice cash for your retirement!

      As for the property investment, you raise a great point that I’ve heard many times before. In many areas, property value is just too high to make it a viable investment, especially with cash! Sounds like I’d better do some research and come up with a new article!

      Thanks for the idea!

  • WTD

    What kind of company contribute 10% as a match? Sign me up. Most companies only go up to 3%.

    • My employer is awesome. It’s true. And it’s probably why no one ever leaves. 😉 In reality though, the match is 3%, then there’s a Core contribution for everyone, which is 4%, and then they pay out a bonus of 3% each year that goes into our investments.

      I more or less stumbled upon it, but people should really seek out a company that has great benefits. With these offerings, it’s almost like having a salary that’s $10k more!

  • Great points! For those in the FIRE community, maxing out their 401K isn’t always the best idea. Not to say that it’s wrong to do so, but there are also other avenues to FI.

    Thanks for sharing!

    • You got it! I don’t always put myself in the FIRE community, but it’s definitely in the back of my mind at all times (as you can probably tell from the article). Thanks for the comment, Lance!

  • This is an excellent post! Some of the time its the unconventional method that works best, Don’t always go along with the crowd. I think what most average people think when they go about these programs (401k) is they see the simple equation feed to them.I put in a certain amount and I get to live comfortably when I retire. In the meantime You could get sick or hurt or maybe even die, or you could want to start your own business. Having control over your money means a lot. Having confidence in yourself goes along way in this case. Set up an automatic withdraw to put money into a corporate 401k,Ignore it for 40 years clearly points out and basically sums up what your’e doing when you put your money into a 401k.

    • I think your comment around ‘confidence in one’s self’ is key. If someone doesn’t believe in themselves, they can easily be sold on the “invest and hope” method. In the past is has worked, and for their sake I hope it works in the future…but I’m not banking on it. I believe too much in myself to just hope and pray on the market.

  • I dunno, I’m not convinced. I’m viewing the arguments you listed more as “concerns” than legit reasons to forego one of the tenants of personal finance and early retirement. I’m especially wary of your macro level fiscal and tax policy “things that haven’t happened yet” list. Government policy is so ephemeral that I strongly prefer to make decisions based on existing policy and react to newly implemented changes as they come.

    I think Joe Taxpayer did a great job alleviating those concerns, especially regarding the problem of accessing your money. It’ll be accessible, one way or another. Keep in mind that Roth contributions (vs gains) are penalty and tax free. You’d only need to be concerned about tapping your balance *growth* – a good problem to have and a solve-able one at that.

    I do understand that the pre-tax vs. Roth contributions argument is subject to your individual situation. Your argument that your low tax bracket and young age lead you to Roth contributions is valid. But why not max out those Roth contributions instead of contributing just 7%?

    I’m definitely not trying to strawman in this paragraph but to better understand your position in my own words. Please correct me if I’m off-base here. The argument you seem to propose is: on an annual basis, you’d prefer to allocate roughly $10k toward rental properties instead of Roth 401k contributions. The two major qualms I have: 1) The Roth 401k contributions are a disappearing annual tax benefit with a lifelong positive influence on your balance sheet: use it or lose it each year. Rental properties are always available, but that $18k annual opportunity goes away quickly. 2) Sheltering dividends, interest, and REIT income inside of a Roth account for decades is an incredible tax break. When you combine that with tax-free capital gains distributions, I would be flabbergasted if you’d be able to formulate a mathematical argument in your favor.

    Whereas some PF decisions such “rent vs buy” can be left to personal preference, I think this one is an question where math carries the day. The Roth 401k is a heavyweight champion in your posse, bested only by an HSA. I think you’d be remiss to neglect it.

    • Hi Jack. It really comes down to two points for me:

      1) If I earn 8% on my current contributions (and the match from my employer), I’ll have $3 million by the time I turn 65. So….I probably don’t need any more than that…

      2) It’s a matter of control. I don’t like to sit passively and watch my investments go up and down. I want to be a major factor in them going up and down. Therefore, I like to hunt out deals on property, fix them up, rent them out and watch the cash flow AND the upward appreciation (4-5 months of work netted me a total of $46,000 – http://lifeandmyfinances.com/2017/02/we-bought-a-rental-house-with-cash-one-year-in-review/ ). I obviously can’t wait to do this again!

  • 1) Are you pursuing early retirement? Having “too much” in a Roth might be impossible, from my mindset, ER plans or not. I have found that Roth accounts in particular give you a ton of flexibility. I’ve never felt that my Roth money had constraints or restrictions that aren’t solved with a tiny bit of paperwork. Speaking of which:

    2) Have you considered a Self Directed Roth IRA to fund your property investments? You’d get the benefit of tax sheltering and still invest it the way you see fit. Imagine not having to pay capital gains tax on that $46k profit!! You can likely pull off an “in-plan rollover” to shuffle balances out of the 401k and into a SD-Roth while you’re still employed by your current employer. About 60-70% of plans I’ve seen allow this action, but you’d need to ask the plan admin. And the first answer isn’t final. I’ve been told “no” before but pushed on this one and eventually got a “yes.” If that’s not an option, you can wait until you leave your current employer to execute the rollover with 100% success.

    • Hi Jack! I’m not pursuing early retirement, but if I feel that it suits me later in life, then I’ll gladly take it!

      I haven’t looked into the self-directed Roth IRA, but now that we’re starting to invest more and more into properties, I probably should, huh?! Thanks for the heads up.

  • […] and My Finances tells us 3 Reasons Why I’m Not Maxing Out My 401K, even though it’s a “sin” in the personal finance […]

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