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I have mentioned this before, but I think it is such a valuable piece of advice. When I first started to work for the federal government, a coworker advised me to increase my 401(k) contribution each year when I received a raise at work.
He explained that if I was able to increase my contributions by even 1% each year, I would be able to reach retirement that much easier.
I remember at that time, I was barely making ends meet. I was in my 20s, and peer pressure was coming at me from every direction. The last thing I wanted to think about was saving for retirement.
I wanted to eat at restaurants without restriction. I wanted to upgrade my old, beat up car. Everyone was posting pictures of their latest trips. I wanted to travel and have similar experiences. The thought of increasing my 401(k) contributions at the time sounded so boring.
However, looking back, I regret not doing so. I frivolously spent more money that I should have over the years. I wish I had saved instead.
I thought it would be really interesting to see what would have happened if I had increased my contributions during those years. So, I ran the numbers and used six different salaries, starting at $25,000 and incrementally increasing up to $150,000. I used the starting age of investing at 22, ending at age 66.
Since the average 401(k) employer provides a match up to 3%, I used a 6% yearly contribution figure. I also used a 6% annual investment return based on a 60/40 stock-to-bond split, in conjunction with compounding interest on the investment annually. The blue bars show this 6% annual return, which is essentially the baseline.
For the red bars, I used the assumption that the savings rate began at 6% at the age of 22 and grew 1% annually, until a maximum of 50% at the age of 66. The figures below do not factor in inflation or salary increases.
Here’s how much money you would have saved by age 66 assuming a salary of:
With a 6% allocation: $338,262
With an increasing allocation of 1% each year, until you hit 50% at age 66: $1,079,129
Total difference in savings: $740,867
With a 6% allocation: $676,524
With an increasing allocation of 1% each year, until you hit 50% at age 66: $2,158,258
Total difference in savings: $1,481,734.37
With a 6% allocation: $1,014,786
With an increasing allocation of 1% each year, until you hit 50% at age 66: $3,237,388
Total difference in savings: $2,222,601
With a 6% allocation: $1,353,048
With an increasing allocation of 1% each year, until you hit 50% at age 66: $4,316,517
Total difference in savings: $2,963,468
With a 6% allocation: $1,691,310
With an increasing allocation of 1% each year, until you hit 50% at age 66: $5,395,646
Total difference in savings: $3,704,335
With a 6% allocation: $2,029,573
With an increasing allocation of 1% each year, until you hit 50% at age 66: $6,474,776
Total difference in savings: $4,445,203
Incremental Changes & Savings
Don’t be discouraged if you are no longer 22 years old. The point was not to make you feel bad, but to show you how incremental savings changes can add up over time. Even if you can’t save 50% by the time you’re 66, you should still be able to find an additional 1% to put towards savings.
The average raise in 2016 was 2.8%. In 2017, the average raise was 3.0%. Experts are forecasting that the average raise will be 3.0% again in 2018. That means that over the last three years, that you should have received an increase in your paycheck by almost 10%.
Since inflation has been so low (1.28% in 2016), you should have been able to save at least 1%, if not at least 3%, over the last 3 years.
I was recently looking at Personal Capital, where I review my expenses. I was trying to determine if there was any fat in my budget, even though I have a savings rate that exceeds 65%. There was. I still eat at restaurants too much.
I encourage you to start the new year off right and look for ways to increase your savings in 2018. Even if it is only increasing your savings by 1%, I showed you above how much of a difference that can actually make.