How Much Should I Contribute to Retirement This Year?

While many people overlook the importance of saving for retirement, it’s as essential ever to prepare for the future. Creating the right plan can help you achieve your goals whether you want to retire early, live comfortably in your older years, or leave money to family members. Depending on the types of savings accounts you use, retirement planning can even have more immediate benefits, like reducing your taxable income. Read on to learn how much you should contribute to your retirement in 2022 and what accounts to use.

Contribute 15-20% of Your Gross Income Toward Retirement

Retirement sign

Image by 401(K) 2013 licensed under CC BY-SA 2.0

Most financial experts advise people to put 15-20% of their gross income towards retirement. For instance, imagine a professional makes $60,000 per year before taxes. A financial adviser would likely suggest allocating $9,000 to $12,000 to retirement accounts every year. While the 15-20% rule is a good guideline, the right percentage for you can vary based on several circumstances. The appropriate amount to set aside may even change from year to year.

For instance, consider a 50-year-old employee who has little retirement savings. To ensure they can support themselves when they retire, they may want to set aside more than 20% of their income for retirement every year. This aggressive approach is especially important if they want to enjoy traveling and other expensive activities during retirement. Conversely, consider a 30-year-old professional who has significant savings because they contributed a generous portion of their income to retirement early in their career. This cushion allows them to reserve less money for retirement and meet other financial goals, such as paying off a mortgage.

Use a 401(k) Savings Plan

Now that you know to put around 15-20% of your gross income towards retirement, you might wonder where to actually save the money. One account that many hopeful retirees take advantage of is a 401(k). This retirement savings plan became popular in the 1980s when it became less common for companies to offer pensions. Today, many for-profit companies provide 401(k) plans as an employee benefit.

When you sign up for a 401(k) plan through the company you work at, you allow the company to allocate a specified percentage of each paycheck to your retirement savings account. Your contributions decrease your taxable income because they come from pre-tax dollars. When you retire at 59½, you receive taxable 401(k) payments that depend on the current market value. The Internal Revenue Service (IRS) notes that employees can contribute a maximum of $20,500 to company-sponsored 401(k) plans in 2022. If you’re at least 50 years old, this limit increases to $27,000.

Take Advantage of Matching Programs

Before you designate the percentage of your paycheck to go towards your 401(k) account, determine whether your employer offers a matching program. For instance, a company may offer a 100% match on the first 3% you contribute. If you set your contributions to 3% of your paycheck, the total contribution to your 401(k) account would be equal to 6% of your gross income. If your budget can afford it, it’s important to contribute the highest percentage that your employer is willing to match. This approach essentially gives you free money and helps you achieve your retirement goals faster.

Consider a Traditional IRA

While some people contribute all of their retirement savings to a 401(k) plan, it can be wise to spread your money across different accounts. Another account to consider is a traditional Individual Retirement Account (IRA). These accounts are similar to 401(k)s in that they accept pre-tax contributions, reduce your current taxable income and require you to pay taxes on withdrawals. A major difference is that employees set up traditional IRAs without the help of an employer. It’s common to use this plan when you roll 401(k) funds from a previous employer into a traditional IRA.

Consider a Roth IRA Account

Traditional 401(k)s and IRAs have several benefits, but it’s important to note that withdrawals for these accounts are taxable. You can optimize your financial well-being in retirement by receiving a mix of taxable and nontaxable income. A Roth IRA is a great way to receive nontaxable withdrawals, as you make contributions using after-tax dollars. In 2022, singles can qualify for a Roth IRA if they earn less than $144,000. Married couples filing jointly qualify if they earn less than $214,000. You can make a maximum contribution of $6,000 and a $1,000 catch-up contribution if you’re at least 50 years old.

Consider a Roth 401(k)

Yet another source of nontaxable withdrawals during retirement come from Roth 401(k)s. These plans are similar to Roth IRAs in that they accept contributions from after-tax dollars. The limits for 2022 are higher, as people can contribute of up to $20,500. People over 50 can contribute a catch-up contribution up to $6,500. Even though Roth IRAs and 401(k) contributions aren’t tax-deductible, they can help you keep more of your money over the long term. This is because most young people are in a lower tax bracket than they are when they reach retirement.

Tips for Saving for Retirement

Here are some additional tips for saving for retirement:

  • Avoid early withdrawals: If you withdraw money from your 401(k) before you hit retirement age, you’ll have to pay income tax plus a 10% penalty. It’s best to wait until retirement age so as not to lose your hard-earned money.
  • Rollover your contributions: Note that if you get a job, you can no longer contribute to your previous employer’s 401(k) plan. You can make a direct 401(k) rollover to an account with your new employer.
  • Automate savings: Employer-sponsored plans make saving easy, as they set aside money from each paycheck into your retirement accounts. If you set up a retirement account independent of an employer, consider automating regular payments to stay committed to your savings goals.
  • Allocate some money to traditional savings accounts: While it’s important to save for retirement, consider allocating some of the money to traditional savings accounts. This money is more accessible and will allow you to cover expenses if you suddenly lose your job or experience a medical emergency.
  • Create a budget: Because saving for retirement reduces the money you have to cover current expenses, you can create a budget to make saving more manageable.

While some people struggle to set aside money for retirement, saving for the future has obvious benefits. You can maximize your contributions to prepare for a comfortable retirement while still enjoying your life today. If you need help creating a budget or determining the appropriate investments, contact our expert financial advisers today.