The more you contribute to your 403(b), the less youʼll owe in taxes for the year ahead.
Now is a good time to think about how much you can realistically contribute, in pretax dollars, to your retirement accounts—and reduce your tax burden for the year.
Are you saving enough?
One way to begin is by looking at your current salary deferral rate. An online Retirement Advisor tool can let you know whether you are socking enough away to help produce the savings you might need to fund your retirement.
For a 30-year-old who expects to work for another 40 years, that savings rate might be somewhere in the 10-15% range (including employer contributions). For someone a bit older, with some catching up to do, it may be advisable to “max out” your accounts, or at least try your darnedest.
In 2017, a saver in her 50s may contribute $18,000 to her 403(b) or 401(k), plus $6,000 in catch up contributions (totaling $24,000) as well as $5,500 (plus $1,000 in catch-up contributions, so $6,500 in total) to an IRA.
These IRS annual contribution limits have remained frozen for three years in a row. The silver lining to that (at least for workers who get yearly salary bumps) is that a smaller percentage of income is required to max out and hit those annual limits—making it a more realistic goal for the millions of plan participants who have fallen short in previous years.
$24k spread out over a year is $2000 per month: A big bite out of anyoneʼs paycheck! However, if you factor in the pretax savings and assume a tax bracket of 25%, $500 of that money would otherwise have been added to your tax bill.
Regardless of what the Retirement Advisor tells you, I encourage everyone to at least aim towards maxing out, especially younger employees. Not only will increased contributions reduce their immediate tax bite, but younger people also have more to gain from compound interest— which can increase their investments exponentially. A 30-year-old with a 40-year time horizon benefits significantly more from compound interest than someone starting out just a couple of years later. The younger you are, the more time is on your side.
How compound interest favors early-career savers
Even if you save after-tax money and therefore, donʼt enjoy any immediate tax savings (for example with a Roth IRA), the law of compound interest is reason enough to save as much as you can, as early as you can. Take Brittany, for example. She contributes just $5,500 to a Roth IRA every year, from age 18 through 27. Assuming a 5% annual rate of growth, watch how that money balloons in subsequent years:
Age 27 - $73,000
Age 50 - $223,000
Age 60 - $363,000
Age 65 - $464,000
While past performance is not a guarantee of future results, notice how in this example the value of the Roth really starts growing exponentially during the last few years*. On a graph you would see a curve that starts gently and then curves sharply upwards toward the end. Adding to your retirement nest egg at any stage of your career can have a significant impact on your life in retirement.
Please note that it is important to keep in mind that investments pose risks and you can lose money.
*This hypothetical example of compounding is used for illustrative purposes only and is not intended to predict or project investment results. The example does not include the impact of any expenses or taxes that would be associated with an actual investment. If such costs had been taken into account, the results shown would have been different
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