Should High Earners Max Out Their 401(k) Contributions?

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Key Takeaways

• Maxing out 401(k) contributions may not be the best strategy for high earners, as it can limit liquidity and create tax implications in retirement.
• High earners are better off placing some investments outside of retirement accounts — in real estate, taxable brokerage accounts or private equity.
• Having liquidity gives you the flexibility to react to emergencies and investment opportunities.
• Employer matches are still the most wonderful thing in the world and should be taken advantage of fully.
• A customized financial ecosystem, reflecting your specific objectives, timing, and appetite for risk, informs your long-term financial choices.
• Periodically reviewing your retirement plan ensures it remains in tune with changing personal factors and world economic realities.

Here’s why high earners might not want to max out their 401(k) contributions — it can strangle cash flow and restrict access to other tax breaks or superior investment options.

Others may be taxed at a higher rate in retirement, so they need to balance today’s tax break against potential tomorrow tax risk.

For those who want to keep their options open, being aware of all the advantages and disadvantages makes you a smarter decision-maker.

The following segments provide additional specifics.

Reconsidering Dogma

Typical guidance frequently directs the affluent to max out 401(k) contributions. This advice may not work for everyone, particularly those with unconventional objectives or complicated financial lives. They have different choices and challenges than the average worker, which underscores the need for a more customized plan.

The Standard Advice

There are a lot of financial strategies based on rough rules, such as saving 15% of your income for retirement or maxing out your annual 401(k) contributions. These sweeping concepts can ignore personal necessities. For instance, we don’t all have the same expenses, family obligations, or career stability.

These cookie-cutter plans can overlook major expenditures, like purchasing a home or financing an education. Blindly following general advice can entail overlooking alternatives that could serve you better. If your immediate needs, such as creating an emergency fund or managing debt, are not taken care of, shoveling every available dollar into a retirement account can feel stressful or financially burdensome.

The High-Earner Exception

High earners might feel less pressure maxing out contributions because their income handles basics and frills with a breeze. This flexibility enables them to tackle short and long term ambitions, but the generic advice may still fall short.

If you make more, it’s time to think beyond a 401(k). Other tax-advantaged accounts such as Roth 401(k)s or after-tax brokerage accounts can provide more control and flexibility. High earners in other countries might have their own special investment vehicles too, so it’s worth checking them all out.

By developing a portfolio of plans rather than focusing exclusively on a single strategy, you can better control risk and align with your personal objectives. Checking investments once a year—typically at the outset—keeps strategies fresh, especially as IRS or local guidelines evolve.

Tailoring to Individual Needs

Not all high-earners are wired for these objectives. For example, some may desire to retire early, while others wish to finance a business or family. Tweaking contributions–beginning at 10% and bumping up 1-2% every time you get a raise–provides a malleable solution.

Having a mate? Planning together guarantees that both individuals’ needs get fulfilled. Emergency funds to cover 3 to 6 months’ expenses are key before maxing out a 401(k).

Looking Beyond Conventional Wisdom

Maxing out a 401(k) is only one step. Think tax brackets, after vs pre tax contributions, and how your income changing within the year influences your contribution limits. Not every high earner has to live the same formula.

The High-Earner Penalty

Higher income provides both benefits and challenges to retirement saving. Although maxing out a 401(k) appears smart, a number of hidden expenses and dangers can depress the true return for high earners. Below is a quick overview of the main tax and liquidity issues:

1. Tax-Bracket Risk

High earners frequently retire in the same or even higher brackets, given rising worldwide tax rates. Which is to say that money saved in tax-deferred accounts like 401(k)s gets taxed at a high rate on withdrawal.

For progressive countries, big withdrawals can shove retirees into even higher brackets. Tax-deferred growth is helpful now but won’t be later if tax rates increase or other income, such as Social Security, becomes taxable too.

With RMDs, retirees can suffer from forced income precisely when seeking to rein in taxable income. Sometimes those withdrawals can lower eligibility for tax credits. Thoughtful tax planning is critical.

Many high earners employ backdoor Roth IRAs or HSAs. Even those come with stringent regulations. Overlooking these choices can translate to forfeited tax savings.

2. The Liquidity Trap

Investing the €21,700 or more a year limit in a 401(k) can lock-up funds until 59½ with stiff penalties for premature withdrawals. Without sufficient cash outside of retirement accounts, dealing with job loss, health emergencies or investment opportunities is difficult.

Emergency funds are crucial, but too many concentrate on retirement and miss liquid reserves. Illiquidity can compel individuals to borrow at exorbitant rates, or liquidate assets at a fire-sale discount.

That restricts options when the going gets rough. At worst, massive 401(k) balances cause you to be asset-rich but cash-poor.

3. Opportunity Costs

Maxing out a 401(k) leaves less cash for other investments. A lot of 401(k)s are very restricted in what’s available, so missing out on real estate, international stocks or private equity is real.

Punting just to retirement plans can mean leaving higher returns on the table. For instance, international real estate or direct business investment can outpace plan returns in the long run.

The trade-off is clear: more in the 401(k) means less in other areas, which can slow long-term wealth growth. Not all asset growth comes from retirement accounts.

4. Investment Constraints

Most workplace plans restrict investment options to a predetermined group of funds. This limits the opportunity to diversify risk or pursue new trends.

To max out a 401(k) could mean missing out on superior alternatives (index funds, ETFs or global assets). Solid retirement planning requires a diversified portfolio.

Being stuck in a ground-level plan can sap growth. Choice matters for strong returns.

5. Estate Complications

Big retirement accounts create layers of estate planning. RMDs can erode what’s left to heirs. Retirement accounts pass through esoteric rules and heirs are often confronted with massive bills, particularly when lump sums push them into high brackets.

This can damage a family’s cross-generational plans. Matching up that retirement savings with your estate goals is important.

Strategic Alternatives

For high earners, maxing out 401(k) contributions isn’t always the wisest play. In other words, spreading your investments across asset classes and accounts helps you deal with risk, liquidity, and flexibility. Customizing your investments to your objectives and time horizons is important for constructing a robust, flexible portfolio.

• Reduces reliance on a single account or asset class
• Provides capital for the short term and the long term
• Provides tax diversification and different growth opportunities
• Enables investments tailored to your own risk profile and objectives
• Prepares for changing contribution limits or employer plan rules

Taxable Brokerage

Taxable brokerage accounts can be an intelligent choice for those who desire faster access to their funds. Unlike retirement accounts, there are no early withdrawal penalties or usage rules. This flexibility can help cover big costs, capitalize on emerging opportunities, or serve as a buffer.

Capital gains and dividends in taxable accounts could enhance total returns — if carefully managed with tax-loss harvesting or long-term holding. These accounts can be a nice complement to a wider portfolio, particularly for high-income earners who hit 401(k) limits.

Real Estate

Real estate provides international investors with the opportunity to generate passive income and appreciate. Rental units, office space, or REITs provide consistent income, and real estate frequently appreciates, increasing wealth. Real estate is a nice hedge against inflation and market swings.

Property ownership diversifies risk beyond stocks and bonds, making portfolios more robust. For those who have maxed out retirement plans or desire additional income streams, real estate is a potential solution.

Think about how location, property type, and management demands align with your lifestyle prior to relocating.

Private Equity

Private equity may generate higher returns for the brave. These funds invest in private companies, so they aren’t as dependent on public markets. That implies the possibility for greater returns, but the potential for greater loss and reduced liquidity.

Private equity can help round out a strategy that’s based on stocks, bonds, and real estate. Top earners ought to consider their risk tolerance and longer lock-up durations before investing.

Debt Repayment

It’s wise to eliminate high-interest debt. It liberates cash for other investments and reduces stress. In the long run, debt-freedom saves money you’d otherwise be paying interest on, frequently outperforming the after-tax returns of retirement accounts.

Address debt while continuing to save for retirement. This equilibrium maintains prosperity and creates greater flexibility when life shifts.

The Liquidity Premium

The liquidity premium is the additional compensation investors demand for holding assets that are costly or risky to sell quickly. This concept is important for big earners since maxing out a 401(k) can tie money up for decades. The danger is that you forgo superior opportunities or incur losses should you require liquidity.

How big this premium is varies with markets and asset type, but it always boils down to the tradeoff between liquidity and chasing returns.

Seizing Opportunities

Having cash you can deploy immediately unlocks opportunities. If a killer investment opportunity strikes—say, a global stock market dip or real estate deal—liquid assets allow you to move quickly. Markets can change in days, hours.

If your funds are in a retirement account, you may not be able to move as quickly or will incur withdrawal penalties. Liquid assets, such as stocks or bonds, can be converted quickly into cash, whereas assets such as real estate or private equity investments typically require months to liquidate.

That’s why investors accept reduced returns on liquid assets—they pay a premium for the option value of being able to make a move. For high earners, maintaining some liquidity means you can snatch up opportunities when they arise, which might result in higher long-run returns. Planning ahead can ensure you never have to watch a great opportunity slip by because your cash is tied up.

Managing Volatility

Liquidity is a safety buffer during the hard times. Markets rise and fall and cash on hand can save you from selling investments at a loss just to get by. When things turn downward, such as a recession, reserves mean that you don’t have to sell at rock-bottom prices.

A balanced portfolio combines liquid and less liquid assets, diversifying risk. High earners have the ability to accumulate these reserves and they should contemplate how much cash they’d require in case of job loss or a significant expense.

Liquidity isn’t just about sprinting after fresh investments — it’s about shielding your holdings when the going gets rough.

Personal Freedom

Keeping money liquid gives you more control. If an emergency or an unexpected opportunity arises, you’re flexible. This can translate into less stress and more confidence in your decisions.

Financial wellness isn’t about returns, it’s about stability, about having options when you need them. When high earners make their plans, they need not discount the comfort of having dollars on demand.

The Match Imperative

Employer matches are instrumental in molding the retirement savings behavior of individuals, particularly higher earners. Because the match is immediate and certain, it’s a direct boost to your savings, and it often makes sense to prioritize getting the match before worrying about maxing out your own contributions. Most companies match a portion of your contribution, to a certain level. If you don’t get the full match, you leave free money on the table.

For high earners, the match can appear tiny relative to total compensation, but it still counts — particularly over years of consistent saving.

• Employer matches can inject a big boost to your overall balance, helping accelerate your nest egg growth.
• Concentrating on the match assists in keeping short-term needs, such as purchasing a home, in equilibrium with long-term aims.
• Getting the match even helps if you can’t or don’t want to max out your 401(k).
• Missing out on the match is a lost opportunity for free money and tax-free growth.

Maximizing employer contributions can make a big difference. For instance, when your company matches 5% and you make $100k, that’s an additional $5,000 per year. Over time, with growth, this can amount to far more than you invested yourself. In 2023, the typical 401(k) savings rate was 11.7%. It’s a solid start, but most people don’t go past the match, and high earners may bump into ceilings that prevent them from getting more.

In 2024, you can defer up to $23,000 ($30,500 if you’re 50 or older), but not many people are able or willing to stash away this much, particularly if they’ve got other expenses.

High earners need to understand the effect of limits. For instance, if you earn $350,000 or more, there are rules that may prevent your company from providing a match on income above this amount. That is you could miss out on that employer money even if you want to sock more away. A few firms do give a little more, but it’s not typical. Anyone considering maxing out should review their plan’s guidelines.

For short-term goals, like a wedding or a home, it may be wiser to get the full employer match but not tie up any more cash than you need in a 401(k). Early withdrawals before age 59½ can incur a 10 percent penalty on top of income taxes, so it’s expensive to dip into those accounts.

A Personal Framework

Building wealth for retirement isn’t a cookie-cutter plan. Like high earners can benefit from a personal framework shaped by their own objectives, values, and unique financial circumstances. What this approach means is thinking beyond boilerplate advice and instead concentrating on what carves out the best fit for your life and long-run plans.

Make retirement savings more personal — balancing growth, risk, and liquidity — seeking security and flexibility.

Define Your Number

1. Begin by determining how much you’ll actually need to have in retirement. That means considering living expenses, anticipated medical care, locations and lifestyle.
2. Your target number informs how much you need to save per year. For many people, shooting for 15% of income in retirement accounts is a solid starting point, but the correct percentage is very much dependent on your personal needs and goals.
3. With an end target in mind, you can determine how much to contribute to a 401(k), how much to keep liquid, and what other investments might assist. If your strategy is to retire early or in an expensive country, you might have to save more, or select accounts with looser withdrawal regulations.
4. Audit your number annually. Life changes, costs increase, and market returns fluctuate, so updating the target keeps your plan grounded in reality.

Assess Your Timeline

Some aim to retire at 55, others 70. Your timeline impacts how much risk you can take and how aggressive you need to be with saving and investing. If you’ve got a long runway, you can ride out more market swings, but when retirement is near, you might want to dial down risk.

Big life moments—such as a new career, tending to elders, relocating abroad—can jostle your schedule quickly, so it’s good to have a malleable timeframe. Refresh it as things shift so you’re not surprised.

Evaluate Your Risk

We all have our own comfort with risk when investing for retirement. High earners could be lured by higher-return investments, but they have larger swings. Knowing your personal risk tolerance can influence how much you invest in stocks, bonds, or other investments, or how to divide savings between traditional or Roth 401(k) contributions.

Retirement tax rates, early withdrawal penalties, and plan fees (up to 0.7% and beyond) all factor into this. Check your risk tolerance frequently—what feels safe today might not after a major market move or job transition.

Conclusion

High earners get a lot more than tax perks with a 401(k). Tying up cash in a plan can translate into less flexibility for actual needs or unexpected expenses. I do find more value in split moves—push some money into a 401(k) for a match, then use tools like a brokerage or Roth IRA for more flexibility and quicker access. For others — paying down loans or simply having additional cash on hand just feels safer. Every plan should suit actual objectives, not just tax breaks. Digits are important, but so is how you want to live today. Consider all of your options before you establish a strategy. DM me for savvy feedback if you’d like a second opinion.

Frequently Asked Questions

Why might high earners reconsider maxing out their 401(k) contributions?

High earners will pay higher tax rates at withdrawal, have less flexibility, and limited access to funds. Diving deeper into other investments might even be a better option and certainly more control.

What is the “high-earner penalty” in retirement accounts?

The infamous “high-earner penalty” describes the higher taxes high earners may face on substantial 401(k) withdrawals, particularly if their retirement income maintains their status in a high tax bracket.

Are there better alternatives to maxing out a 401(k) for high earners?

Yes, high earners can include taxable investment accounts, real estate, or tax-advantaged accounts like a Roth IRA or HSA for additional flexibility and tax planning.

Why is liquidity important for high earners?

Liquidity provides high earners with ready dollars to address emergencies or new investment opportunities. Maxing out a 401(k) can restrict this access because of withdrawal regulations and penalties.

Should high earners always take their employer’s 401(k) match?

Of course, high earners should be sure to get the full employer match, at a minimum. It’s basically free money and an instant return on your contributions.

How can high earners create a personal retirement savings strategy?

High earners should balance 401(k) contributions with other investment vehicles, consider tax impacts, and focus on flexibility. Consulting a financial advisor can help tailor a plan to their goals.

Can high earners reduce taxes without maxing out a 401(k)?

Yes, high earners can leverage things like tax-efficient investments, charitable contributions, and diversified accounts to navigate taxes while maintaining flexibility.