401(k) Contribution Limits: How to Save the Maximum Amount

LAST REVIEWED Apr 07 2021 11 MIN READ

By The Human Interest Team

If you have a job and are earning a salary, you’ve probably heard that there are benefits to saving in a 401(k) account. This superb savings/investing account allows you to deduct income from your salary and transfer those funds into a 401(k) account. While in the account, the funds typically grow and compound to be used during your eventual retirement. In addition to the basic benefit of creating a retirement nest egg is the immediate advantage of reducing, dollar for dollar, your taxable income by the amount you transfer into your 401(k) account. This is a sweet deal! But keep in mind that the government caps the amount that you can contribute each year into a 401(k) account.

How much can I contribute to my 401(k) account?

Like with most questions that involve any kind of government agency, the answer to “How much can I contribute to my 401(k) account?” has a few caveats. For 2021, here are the contribution limits for your 401(k) account:

  • The 401(k) contribution limit for 2021 is $19,500 per person. .

  • Workers over age 50 may transfer an additional $6,500 catch-up contribution, for a total annual 401(k) contribution of $26,000.

How do the immediate tax savings work with my 401(k) account?

Jenae earns $75,000 per year and doesn’t contribute to a retirement plan. Jenae is single with no dependents. She is eligible for one personal exemption of $4,050 and the standard deduction of $6,300 for a total deduction of $10,350. Jenae will owe $11,933.75 in Federal income tax. Here’s how her tax return will look:

  • Adjusted gross income: $75,000

  • Less deductions: $10,350

  • Taxable income: $64,650

  • Tax due (estimate): $11,933.75

Now, imagine that Jenae contributes the maximum $18,000 to her 401(k) account. Her adjusted gross income is reduced from $75,000 to $57,000 and her Federal tax liability decreases to $7,433.75 from $11,933.75 for a 37.71% savings. Here’s Jenae’s tax picture after contributing $18,000 to her 401(k):

  • Adjusted gross income: $57,000

  • Less deductions: $10,350

  • Taxable income: $46,650

  • Tax due (estimate): $7,433.75

So, the immediate tax benefit of contributing the maximum amount allowed by law to a 401(k) is a juicy 37.71% tax savings, or $4,500 for Jenae.

How much can I save for retirement by contributing the maximum to my 401(k)?

If sounds ambitious to contribute the maximum to your 401(k) account, consider the alternative. According to the department of Social Security, a 65-year-old man today can expect to live until age 84.3 and a woman may live until age 86.6 on average. Let’s assume that you work until age 65, then you can expect to live an additional 20 years in retirement. With the average Social Security payment hovering around $1,335, you’ll want some extra cash to cover your living expenses. Now, let’s look at the Jenae in retirement. Let’s assume she started contributing the maximum $18,000 into her retirement 401(k) at age 30 and continued for 35 years, until age 65. Assume further that Jenae earns a conservative 6% annual return on her money. At age 65, she’ll have $2,126,175 in her retirement account. This sounds like an extraordinary amount of money. Yet, if you factor in 3.0% inflation, the value of that $2,126,175 in today’s dollars will be closer to $1,177,212. Additionally, when you withdraw the money in retirement from your 401(k) account, you’ll owe income taxes. So, lop off a conservative 15% that Jenae will pay in taxes and the $1,177,212 is reduced to (-$176,581) approximately $1,000,000 in today’s dollars. So, ask yourself if it’s worth it to you to defer spending today to have a secure retirement tomorrow? Next, if you you’d like to contribute the maximum to your 401(k) account, here’s how to do it.

How can I afford to contribute the maximum to my 401(k) account?

When our daughter was born in San Diego several decades ago, we decided that the cost of living in San Diego was too high and would force us into an expensive lifestyle, if we remained there. At that point, we made a decision to relocate to a lower cost of living area. Our thinking was that we could work less, spend more time with our daughter as she grew up, and contribute more to our 401(k)s. The results of that decision were monumental for our family. Ultimately, we saved much more for retirement living in Ohio and Pennsylvania than if we had remained in Southern California. If you reduce your living expenses and divert the savings into a retirement account, you benefit both in the present and in the future. Here’s what you can do, if you’re serious about finding a way to contribute the maximum to your 401(k):

  • Make a commitment to save the maximum in your 401(k) and have that amount deducted from your paycheck.

  • Adjust your tax withholding so that you don’t get a refund. Since you’re already saving the max, you want to make certain that you have the remainder of your salary available for living expenses.

  • Adjust your lifestyle to fit your income.

The third item is the most difficult one on the list, but you may be surprised that with planning, you can actually live on less. First, understand the most expensive budget items for Americans. By reducing the items that take the largest bite out of your income, it’s easier to save more for retirement. The Bureau of Labor statistics (BLS) estimates the average annual income and costliest budget items as: 2014 BLS Average Income and Large Budget Items Before tax income: $66,877 Housing: $17,798 Transportation: $9,073 Food (eaten at home + out): $6,759 Healthcare: $4,290 Housing, transportation, food and healthcare cost approximately $37,920 per year for the average American. If you can significantly reduce those items, you’ll be closer to saving the maximum for your 401(k). Following are some tips to cut back on the big ticket items along with another saving resource. Starter strategies to slash the big ticket items on your budget:

  • Housing: Live in a smaller home or apartment. Consider living in a lower cost of living region.

  • Transportation: Drive a smaller, older model car or take public transportation. Keep the car longer.

  • Food: Eat in more and out less. Consider vegetarian meals on occasion. Create a meal plan and stick with it. Bring snacks and lunches from home to avoid eating expensive snacks and coffee out. These are all tips for budgeting but are also great for your health (see next point).

  • Healthcare: Exercise and keep healthy to keep healthcare costs low.

With commitment you can find many ways to cut your expenses to free up money for your 401(k). For additional tips, America Saves.gov has 54 additional ways to save money.

The takeaway: You CAN contribute the maximum to your 401(k) account

This article spells out the benefits of saving the maximum in your 401(k). Actually, if you save $18,000 but subtract the tax-saving benefit of $4,500, you’re only saving $13,500 per year. It’s clear that if you contribute the maximum to your 401(k), you’ll have more money in retirement and pay less in taxes during your working years. Yet, even if you can’t hit the $18,000 per year 401(k) savings mark, there are marginal benefits from saving and investing as much as you can in your retirement account. Give it a try for a few months and see how it works out. You may be surprised to discover that once the money is out of your account, you can adjust your lifestyle to live on less. If your employer doesn’t offer a 401(k), ask them to set one up today >>> Sources and calculators used in this article that you may find useful, as well as a related article:

Image credit: Ken Teegardgin

We believe that everyone deserves access to a secure financial future, which is why we make it easy to provide a 401(k) to your employees. Human Interest offers a low-cost 401(k) with automated administration, built-in investment advising, and integration with leading payroll providers.

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