Will You Ever Reduce Your Retirement Contribution Rate?
When I think about the retirement savings trajectory of a typical American, I imagine that his rate of saving for retirement increases basically monotonically throughout his life. In his 20s and 30s he doesn’t save anything; in his 40s he wises up and starts putting money away; in his 50s he panics and saves as much as he can given the lifestyle he’s become accustomed to; by the time he’s about to retire he’s putting away quite a significant fraction of his income, the most in his life. (I’m not recommending this path, it’s just what I think of when I reflect on retirement savings literature, most of which is aimed at middle-aged and older people who are striving to save eight times their salaries or whatever.)
However, on my GRS guest post I got a great comment from Courtney H., telling how while she was in grad school she and her husband lived off his income and used her stipend to fund Roth IRAs. She concluded by saying “It is nice to have that cushion [in retirement accounts] since now that we have two kids in daycare ($1800/month ouch), we only contribute 10% of our income to retirement.” The way she phrased that last clause made me think that they used to contribute more to retirement, either absolutely or by percentage of their income, than the 10% they are currently saving.
Her comment struck me as a possible example to emulate. Saving 10% toward retirement in your 20s/30s is still no slouch, but they were able to feel comfortable taking it down to that rate based on their high retirement account balances accumulated before their children went into daycare. Right now Kyle and I are saving 17.5% of our gross income into our Roth IRAs because we wanted to get an early start on saving for retirement and we don’t have anything better to do with it. It’s certainly possible that when we have more expenses, like a house and kids, we won’t be able to save such a high percentage so easily (though in absolute dollars of course we will be saving much more). At that time we may evaluate where our accounts stand and choose to cut back on that retirement savings percentage.
Basically, Courtney H. and her husband bought themselves a more relaxed retirement savings rate because they pushed so hard at it when they were younger, and I’m thinking we might be giving ourselves the opportunity to do the same. This goes right against my notion above about how we should always increase our retirement savings rate right up until we start drawing from the accounts.
Here are a few times in life when it might be reasonable to consider backing off saving for retirement:
Childcare expenses – This was Courtney’s example, and $1,800/month is quite a high rate! The good part about this motivation is that it’s a temporary period if your children go to public school. In a limited number of years you can switch that childcare money right back to retirement accounts.
Paying off debt – This is a controversial one. Dave Ramsey, for instance, argues to stop saving for retirement entirely while paying off non-mortgage debt. Other financial advisors say to contribute to get your full match but no more. I think the interest rate on the debt plays a role in this decision – the higher the rate, the more it behooves you to sacrifice saving to get rid of the debt.
Saving for a house – If equity in a house plays into your long-term savings plan, it could make sense to switch your aggressive savings from retirement to a down payment fund. I can certainly see us dropping our retirement savings contribution for a limited time to save up for a house as we plan to move to a city with high housing prices.
Gaining an employer contribution – If you switched jobs and your new employer is contributing much more to your (vested) retirement account than your old employer, that might be reason to reduce the amount you’re contributing. It’s part of your gross compensation package, after all.
Maxing out tax-advantaged accounts – People who have high and quickly-increasing salaries will find that maxing out their available tax-advantaged retirement accounts will amount to a decreasing percentage of their gross income year after year. In that case I think it could be reasonable to keep saving for retirement in a taxable account or to save for more general goals, whatever they may be.
It seems that the scenarios in which I favor reducing your retirement savings rate are generally ones that are limited in time by the situation that brings them about, but I recognize that you might also decrease your savings rate when coming off a period of unusually high savings instead of starting one of unusually low. A good reason for that might be reaching financial independence!
Kyle and I have only ever increased our retirement savings rate (percentage-wise and absolutely) as we still aren’t maxing out two Roth IRAs. I think 17.5% is a bit of a high rate since we started so young and aren’t striving for early retirement. However, as we have a tiny income it doesn’t actually amount to much in dollar terms. I expect in our future we’ll save less by percentage but more absolutely, although I’ll try to hold out for saving at least 15% for as long as we can!
Have you ever or do you plan to decrease your retirement savings rate and what situation would motivate that? When you consistently max out the tax-advantaged retirement accounts available to you, what will you do with excess savings?
photo from Free Digital Photos
Filed under: choices, retirement, savings · Tags: child care, comments, debt, house down payment, maxing out
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I’ve only ever increased my contribution rates, but you bring up some good reasons to back it down. Saving up for a down payment on a home seems like a sound reason, and of course if you make more and more money, it might make sense to contribute a smaller percentage even if the total contribution amount increases.
Cash Rebel recently posted..Investing in Law School
We’re still pretty fresh into the retirement savings journey, so I’m sure various life events will prompt reconsideration of savings goals.
If we’re talking about retirement accounts proper, my percentage will decrease as I’m maxing it out and expect a salary boost next year, so even maxing it out would still be a smaller percentage.
In dollar amounts, especially with what we consider savings, even in non-retirement accounts, those fluctuate based on how much income we have. We aim to keep spending relatively stable, so when we have a fabulous income year, savings is high (like for 2012). 2013 will likely end with a bit less on the income side, but with similar expenses, so dollars saved will be lower. The joys of variable income. =)
Mrs PoP recently posted..PoP Income Statement – October 2013
It’s good that you have a plan in place for your savings with that irregular income. I love percentage-based budgeting, but it’s not very compatible with a highly fluctuating income, at least on a month-to-month basis.
Yes. We were contributing something like 40% before DH quit his job, now we’re contributing more like 12% and our income is much lower on top of that. But your networth grows pretty quickly at 40% saving and high-ish salaries.
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With a 40% rate, it’s not surprising that you had to cut back! 12% is still fabulous, though. Will you go back to 40%-ish when your husband has a stable income again?
Depends on how big his salary is! It might be more than 40%. Essentially we spend what we spend. That means only donations and savings will go up with additional income.
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Hi! I stopped your page today and was excited to see my name! We probably save more for retirement now in dollar amount but it is a lesser percentage of our gross income. In grad school we maxed out our two ROTHs, but now we don’t max them out (we do put a lot in SEP-IRA and my TSP at work is matched). In grad school after we maxed out of ROTHs, we saved everything else in a savings account for a house. We saved any extra money, gifts, and side income in our down-payment fund. A year after grad school we were able to put 20% down on our house and saved a lot in PMI.
I know that my kids’ daycare expenses will not be forever but I am so glad that I saved while I was younger. Once we hit about $100k in retirement, we scaled back to put extra money in other savings accounts. Since I am only 28, the money has time to grow and we can enjoy the power of compounding interest.
Thanks for giving more details about your savings plan while in grad school and now. That’s impressive that you were aggressively saving for retirement and a house simultaneously! It’s pretty mind-boggling what $100k will grow to over 30-40 years even without additional contributions.
What an interesting question. Oddly, we do anticipate that when Mrs. DB40’s stipend expires in Q3 next year, we may indeed have to reduce our savings rate (and, possibly, our retirement savings rate). It’s too early to tell as she has other possible income/funding sources, but if they don’t pan out we’ll likely see our savings rate plummet. Kids, also, might change the plans, if income and expenses go sideways for a bit.
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It makes sense that if you lose that income you will have to cut your savings, but hopefully some other funding will come through!
I hope to always be able to increase my retirement savings, at least to as much as tax-advantaged accounts will allow. Once we both start working again, my goal would to be max out our Roth IRAs and 401Ks.
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I thought of you after I posted this and realized I forgot to add going to grad school into this list! I know you were still contributing some to retirement accounts, but I guess you’re still high on percentage contribution since your income dropped so much.
I already consistently max out all the tax-advantaged retirement accounts available to me! I’ve been using my excess income to pay down the mortgage aggressively. Once that is gone, I will set aside cash to replace my car and invest for retirement in taxable investment accounts.
I estimate that my 401(k) should have enough money in it to last me from age 60+ by the end of 2016. At that point, I would have about $150,000 in it and if it continues to compound at about a 5% real return per year until the year where I turn 60, that should be enough to supply $2,200/month in income. I will probably continue contributing as much as I can, but once I have enough to last me past age 60, that will give a good sense of flexibility in where to save later. For example, if I already have enough saved for retirement, I could set aside that amount instead of kids’ college education. Saving early provides you a lot of flexibility later!
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I’ve been thinking about the point that you brought up – funding the end of your retirement before the start of it. A lot of ER people seem to distain tying their money up in official retirement accounts because it won’t be easily accessible before age 60-ish, but to me it makes more sense to work backwards. Maybe I’ll write a full post on these thoughts.
Saving for kids’ college – great point! As long as you are ahead of schedule on retirement savings, you do have the option of flipping the standard ‘your retirement should take priority over kids’ college’ advice on its head.
I think there’s so little (if any) time between being a flailing young adult and being a parent, so that window of opportunity for high contributions doesn’t necessarily happen for everyone.
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Hmmm, very interesting point. Depends on how you define flailing, maybe. I think we’ll try to have a kid shortly after finishing grad school, so maybe that gives us a small window or maybe we’re not ‘flailing’ now so we have a bigger window. I can think of a lot of my friends who are making great incomes (I don’t know how aggressively they save for retirement) and don’t have kids on the horizon.
We do plan on decreasing our contributions to our retirement accounts in the future. Our plan is to sell all our stuff, sell our house, and move overseas in about 10 to 15 years (hopefully sooner!), and we expect to make enough to cover living expenses but maybe not to contribute heavily toward savings and investments. We are throwing everything we can into retirement accounts right now – we save 30% of our income – so that when we do start traveling and living abroad, we’ll be able to contribute less while we’re making less than we currently do and still be able to hit our goal amount for retirement. For now, I want to up the amount we save currently so that we might be able to pursue this dream of living overseas even sooner.
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I didn’t know about that plan of yours! Are you going to stay overseas for the rest of your life or is it for a limited time?
Great post! Lots to think about.
Right now I’m contributing 15% to my SIMPLE IRA. I don’t earn a whole lot to start with… so it’s definitely tempting to cut back on retirement contributions, especially now that my husband is unemployed, but I’m trying to stick it out for as long as I can.
As far as debt vs. retirement savings go, I think you’d be foolish to forego matched contributions for any reason other than an emergency. Your own contributions can be made up later, but if you don’t take the match, it’s gone.
That’s a good point that you can catch up your own contributions but the match is a paycheck-by-paycheck offer, right?
15% while one on salary is impressive, and that is our plan too if one of us is unemployed for a while. Keep going!
I didn’t start saving for retirement until I was 29, as that’s how old I was when I graduated college. I’ve maxed my tax sheltered savings ever since. I’ve also contributed quite a bit to taxable savings. For the first ten years of our marriage, the equivalent of my wife’s gross earnings were going into our savings. We are still saving about that same amount, but since my wife is now earning more, we are probably saving less percentage-wise.
Bryce @ Save and Conquer recently posted..Festival of Frugality #406 – November 5, 2013
That’s amazing that you were living on one income and banking the gross of the other for that long! Hey, cutting back percentage wise isn’t so bad when you were so aggressive to begin with, especially if the absolute amount is still higher. Great job!