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Is it better to max out my 401k early on in the year or spread it out and make regular contributions?

May 03, 2012 by Lowell from Binghamton, NY in  |  Flag
7 Answers  |  9 Followers
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3 votes
George Cones, JD Level 20

Lowell, Just to add to the good answers here:

1. If you can, max out on your contribution regardless of how you do it, and take advantage of the step-up if and when it is available to you.

2. Dollar cost averaging is a great way to take smooth out your return over time, below is a way of thinking about it.

Let's say you invest $10,000 in the S&P 500 (a large US stock index) early in the year, and the S&P drops 30% at the end of March. You would be down $3,000. Now you have $7,000. The market goes up 30% the next year, but you only make 30% on $7,000 or $2,100 for a total of $9,100.

If you said the market could have gone up 30% and you would have $13,000, you would be right.

The real issue is the kind of volatility risk (especially downside) you can deal with. We (like other advisors commenting here) find that most folks are not that comfortable with the loss side of this equation. Over 10, 20, 30 years these time short-term fluctuations won't matter as much, but the worst case scenario would be for you to change your strategic asset allocation because of a loss you took in one area of the market. Dollar cost averaging could help smooth out the peaks and valleys.

Comment   |  Flag   |  May 03, 2012 from Wilmington, DE

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2 votes

I'm not sure if it makes any difference becasue we can't predict where the market will be at any given point. If you max out early and the market goes up, great move. If the market drops like a rock not a great move.

2 Comments   |  Flag   |  May 03, 2012 from Cleveland, OH

It depends. :) Seriously, it depends on (1) your personal budget and disposable income trends, etc. So it's personal in this regard. (2) Sooner is generally better. As Mr. Bogart suggests, predicting short term fluctuations in the "market" is challenging -- if not impossible. That said, we track overall (aggregate) projected returns for the market (NOT just P/Es!) and this becomes a barometer for us -- providing some navigation. For example, during March-April 2009, our answer would have been to 'back up the truck' based on a median return forecast that exceeded 20% per annum. Today? The median return forecast is 8-9%, closer to historical norms and we'd urge careful, continuous shopping and selection of high-quality alternatives with outsized return forecasts. It's not about predicting the future so much as stacking probabilities in our favor.

Flag |  May 03, 2012 near Rochester, MI
Jeffrey Allen Bogart

I concur! And not to sound like a broken record but have you done calculations to see if you are saving enough to meet your goals. Markets and returns are not controllable issues, but saving adequate amounts is a factor which you can control!!

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Flag |  May 03, 2012 near Cleveland, OH

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2 votes
Rich Winer Level 20

Lowell, I personally believe that it's better to contribute earlier in the year for the same reason I recommend that my clients make IRA contributions for the current year as soon as possible rather than wait until tax time in the following year. My reason for this recommendation is simple: You'll have more money growing for you tax-deferred sooner. While it's true (as others have pointed out) that we can't predict what the market will do after you make your contributions, statistics have shown that investors who make their retirement plan contributions earlier in the tax year end up with more money at retirement. Of course, as with everything else related to investing, there are never any guarantees.

Comment   |  Flag   |  Apr 17, 2013 from Woodland Hills, CA

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2 votes

Hi Lowell! I think the consistency of contributing systematically builds discipline in your budgeting and helps you maintain a more even cash flow from your paycheck. For example, if you max out your contributions in early May, your paycheck will increase for the rest of the year. Then, you get used to spending a higher amount each month, and WHAM! January comes and your contributions start again. You get hit with a smaller paycheck during a long month just as Christmas bills are due. Either way will work, but I am a fan of regular contributions.

Comment   |  Flag   |  Apr 17, 2013 from River Hills, SC

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2 votes

Max out your 401k early in the year and for the rest of the year, take what you would have put into the retirement account each paycheck and put it into another investment vehicle. That will give you the best of both worlds - more time for your 401k contribution to work and dollar-cost averaging for your other contributions. If you can afford to max out your 401k early then it sounds like your monthly cash flow would handle this idea. Of course, your continuing contributions will be after-tax money so you may have to reduce your savings accordingly. Stocks are up for the year 70% of the time so the odds are in your favor investing early in the year. Also, the 1Q is on average one of best quarters of the year so you normally get off to a good start.

Comment   |  Flag   |  Apr 19, 2013 from Charlotte, NC

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If it will not adversly affect your cash flow, then yes. Best of luck.

Comment   |  Flag   |  May 04, 2012 from Port Washington, NY

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Hoy Carter Grimm Level 16

This isn't a math question as much as a behavioral question. Pam Alludes to this in her answer. By accelerating contributions early, you also increase the "perceived volatility" of the account. This is a minor cognitive concern when your 401k balance is small that becomes more likely to trip up investors as the balance grows.

I suspect if the OP has the economic flexibility to consider this option, he has been disciplined enough to accumulate a serious amount of money. Regular additions would lessen the perceived volatility of market fluctuations. If you are a very disciplined personality (with additional investment experience outside of your retirement accounts) maybe this is no big deal. If you have little investing experience outside of your 401k account, it's something to watch out for.

Comment   |  Flag   |  Apr 13, 2016 from Maryville, TN

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