Will You Outlive Your 401(k)?

Quick Answer

A 401(k) account is one way to save for retirement. But depending on your circumstances, there is a chance you may outlive your 401(k). Being methodical about saving and diversifying your investments can help you ensure you don’t outlive your money in retirement.

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If you're contributing to a 401(k) plan, you may think your retirement is locked in. But if you switch jobs often, your employer's match is small or you only contribute the bare minimum, you may not hit your retirement savings goal by the time you're ready to quit your job for good. Here's how to make sure you won't outlive your 401(k).

What Is the 4% Rule for Retirement Savings?

There's no hard and fast rule about how much of your money you can spend every year in retirement. But the 4% rule is a good place to start.

The 4% rule states that you can safely withdraw 4% of your investment portfolio in the first year of retirement. In every subsequent year, you adjust the amount you withdraw for inflation. As a result, you shouldn't run out of money for at least 30 years—according to the rule.

For example, let's say your total investments at retirement equal $500,000. In your first year of retirement, you can comfortably withdraw $20,000 using the 4% rule. If the cost of living (hypothetically) increases 2.5% annually, you'd be able to withdraw $20,500 in the second year of retirement, $21,012.50 in the third year, and so on, for a total of 30 years without depleting your savings.

However, the 4% rule doesn't come without limitations.

  • It's inflexible. This rule assumes you will spend the same amount (adjusted for inflation) every year in retirement. Expenses can change, and it's hard to predict just how much you'll need to live on each year.
  • It gives a 30-year time limit. Depending on when you retire, 30 years may or may not be enough time. The average age of retirement is 62, according to Gallup's 2021 Economy and Personal Finance survey. If, instead, you work until you're 70 or retire when you're 50, the 4% rule may not be for you.
  • Taxes and fees aren't included in the calculation. Taxes and fees come out of the money you withdraw from your 401(k). So, if you take out $20,000 and the year-end tax is $2,000, you pay that amount out of the $20,000 withdrawn.
  • It doesn't account for Social Security. The 4% rule also doesn't consider the Social Security income you receive during retirement.
  • The rule is based on market data. The 4% rule looks at what the market has done in the past, and it's difficult to predict how the market will react to economic changes in the future. If inflation skyrockets, for example, your money won't go as far and you could deplete your retirement faster than you anticipate.
  • It's based on a 50% split of assets. This rule assumes your portfolio is made up of 50% stocks and 50% bonds, but many financial planners say that diversifying your portfolio beyond that is best.

How to Avoid Outliving Your 401(k)

If the 4% rule isn't a foolproof way to determine how much you'll need in retirement, then what are other ways to avoid outliving your 401(k)?

One way to insure your financial future is to set realistic savings goals. And it's never too early to start saving and spending carefully.

Consider applying the 50/15/5 rule. With this strategy, you allocate no more than 50% of your take-home pay for essentials, like food, rent and debt payments. Stash away 15% of your pretax income, including any employer contributions, for your retirement and put 5% in short-term savings, meant to cover unexpected emergency expenses as well as non-emergency expenses such as having to fix your cellphone or traveling to a friend's wedding. The remaining 30% is to use as you wish, which could include paying off your credit cards, saving for a vacation, buying new clothes or eating out at your favorite restaurant.

This rule is meant to be flexible depending on your life stage, needs and savings goals. If you're in your 20s or 30s, setting aside 15% of your income is likely to help you build a healthy 401(k) by the time you retire. If you're a bit older, consider saving 20%, as you have less time until retirement to build a buffer.

Strategies for Boosting Your 401(k) Savings

While many employees participate in an employer-based 401(k) plan, some—especially lower-wage earners—fail to sign up, may not have the option of a 401(k) or don't take full advantage of their employer's 401(k) match. If that makes you anxious, there are strategies to boost your 401(k) savings that you can start now.

  • Exhaust your employer's match. Employers often match their employees' 401(k) contributions up to a certain percentage of their annual salary. Getting your full employer match is an employee benefit that costs you nothing other than saving toward your own retirement. So whatever percentage your employer is willing to contribute, contribute at least that much if you're able. If your employer will match up to 4% of your salary, for example, you should also put 4% into your 401(k), effectively doubling your contribution.
  • Increase your personal contribution. When just starting out, you may not be able to max out your annual 401(k) contribution. However, when you get a raise or you're financially able, bump up your contribution to get the most out of your retirement savings.
  • Avoid taking early withdrawals. Unless you qualify for an exception, making an early withdrawal (before you reach the age of 59½) from your 401(k) account means you pay regular income taxes plus a 10% penalty on your money, thereby shortchanging your retirement savings.
  • Take advantage of tax breaks. A 401(k) plan is funded with pretax dollars. That means you pay no income taxes on this money until it is withdrawn from your account. Because your 401(k) contribution is typically taken out of your paycheck before you ever see the money, you'll also pay less income tax on your wages.

Other Ways to Save for Retirement

An employer 401(k) plan is one of the best ways to save for retirement. But if your employer doesn't offer a plan or you don't feel comfortable contributing to a retirement fund right now, there are other ways to round out your retirement savings.

Explore an IRA or Roth IRA

You can open an individual retirement account (IRA) yourself through your bank or brokerage firm. The different types of IRAs vary in terms of tax rules and contribution limits but are often excellent retirement plan options if you want a tax-advantaged way to save, you're self-employed or your employer doesn't offer a 401(k) plan. With traditional IRAs, until you turn 72 and are required to start taking distributions, you won't pay taxes on your untaxed earnings or contributions.

With a Roth IRA, you contribute after-tax income. You can contribute up to $6,000 a year, and if you're 50 or older, you can contribute an additional $1,000 catch-up contribution each year.

Invest Outside of Your Retirement Accounts

Because IRA and 401(k) plans come with certain restrictions, it's wise to consider diversifying your retirement savings beyond these accounts if possible. Opening a brokerage account and putting money into mutual funds, exchange-traded funds (ETFs), real estate investments trusts and other investment vehicles can help diversify your retirement portfolio. You may also want to consider life insurance, real estate, annuities and other investments that may have long-term investment advantages.

Consider an HSA

A health savings account, or HSA, is a tax-advantaged plan that is similar to an IRA, but you can only use the savings for qualified medical expenses. There are limitations on who can contribute to an HSA and what counts as qualified health care expenses. Also, contribution limits can vary per plan, your age and coverage. Still, they can provide a good backup to traditional retirement accounts, especially for medical costs in retirement, because you don't pay taxes on contributions; interest, dividends or growth; or qualified distributions.

Open a High-Yield Savings Account

The interest rate on a high-yield savings account can outpace interest rates on standard savings accounts. Your money is FDIC-insured up to $250,000 and you can open an account online or through most banks. However, interest rates are lower than you might earn over time in other investment accounts, so your money may not accumulate interest as quickly from one year to the next.

The Bottom Line

Don't spend your time making money hoping it will magically transform into retirement savings someday. Instead, investing now in your retirement with a 401(k) can ensure a bright financial future for you and your family.

But your 401(k) should only be part of your long-term financial plan. Your credit health is also important. No matter where you are in your retirement journey, Experian's got you covered with free credit monitoring.