- Pat and Chris start their careers at the same time and at the same salary.
- They both get $5,000 raises following each of their first 5 years of work, followed by 4% annual raises thereafter.
- They both start their 401(k) contributions at 10% of their gross pay.
- Pat maintains his contributions throughout his career at 10% of his pay.
- Chris "marries" her 401(k) and splits all of her raises 50/50 with her 401(k) plan; i.e., whatever her raise, half of it goes to her 401(k).
- Chris hits the current annual contribution max of $17,500 in Year 6. She continues to contribute the max thereafter. [Take note: after 5 years of employment, both Chris and Pat have increased their salaries by $25,000. Stingy Pat has only given an extra $2,500 to his 401(k). Generous and loving Chris has shared her increase 50/50 to the tune of $12,500 with her 401(k).]
- We'll keep things simple and won't show Chris or Pat taking advantage of the additional catch-up contribution of $5,500/year when they reach 50.
- We'll assume the IRS authorizes 3% annual increases in the max during that time.
- We'll also assume a 7% investment return and a 40-year career.
After 40 years of work, Chris ends up with roughly $4.3 million in her 401(k), almost double Pat's total. If she draws on that money at a rate of 4% of the ending investment balance, she'll be able to replace 61% of her ending pre-retirement salary, whereas Pat will only be able to replace 31% of his. Adding social security on top of Chris's draw, she'll probably be pretty comfortable in retirement. Pat, on the other hand, needs a part-time job in retirement.
Is this a gimmick? Maybe, but I'd rather think of it as being a rational method to enforce a savings discipline. Retirement doesn't fund itself, and few people have pensions any longer. So, if it takes a gimmick to help people reach financial security, I'm all for it. Here are the numbers (click to enlarge on a new page):