What to Do If You Are 50+ With Over $2 Million in Your 401(k)
The 401(k) retirement plan is one of the most powerful tools. This tax-advantaged savings vehicle allows you to accumulate wealth steadily over a lifetime of diligent saving and investing. It offers employer matches to boost your savings. Moreover, it facilitates financial discipline with consistency. Reaching the age of 50 with over $2 million in your 401(k) is an impressive financial landmark that can provide you with a comfortable retirement if managed wisely. But is it truly enough to sustain a comfortable retirement?
Consult with a financial advisor to understand the benefits of having a 401(k) and managing a sum as large as over $2 million in the account. This article will also delve into the actions you can take if your 401(k) balance is over $2 million at 50+ to ensure you have a financially secure retirement.
Is having over $2 million in your retirement account enough?
The average annual expenditures for all consumer units in 2022, according to the Bureau of Labor Statistics Consumer Expenditure Survey, were $72,960. This figure reflects the average annual spending by households for various goods and services in the year 2022. This was a 9% increase from 2021. According to this figure, if your retirement lasts roughly 20 years, you will spend approximately $1.45 million. If your retirement extends to 25 years, you will spend nearly $1.82 million. These figures do not take into account factors like inflation, emergencies, and other changes in your financial situation. Therefore, the answer to whether $2 million in your 401(k) is enough to sustain you for life varies depending on various factors and circumstances. Read below to know how to make the best use of these savings.
4 steps to take to make the most of your $2 million dollar savings in your 401(k)
1. Start tax planning
A traditional 401(k) is a pre-tax account. This tax-advantaged account offers you a tax deduction in the year you contribute. However, when you start withdrawing from your 401(k) in retirement, your withdrawals are subject to income tax. Therefore, careful planning of your withdrawals is essential to minimize your tax liability. One critical aspect of tax planning is understanding the concept of Required Minimum Distributions (RMDs). RMDs are mandatory withdrawals from your retirement accounts, including traditional 401(k)s that the Internal Revenue Service (IRS) requires you to take once you reach a certain age. As of 2023, you need to start taking your RMDs from the age of 73. Failing to do so can result in significant tax penalties, as the IRS imposes a hefty penalty for not meeting your RMD obligations.
To effectively manage your tax situation, you may want to consider converting a portion of your traditional 401(k) to a Roth Individual Retirement Account (IRA). Roth IRAs offer tax-free withdrawals in retirement, which can be highly advantageous from a tax planning perspective. However, there is a trade-off to consider. When you convert traditional 401(k) funds to a Roth IRA, you will need to pay taxes on the converted amount in the year of the conversion. This upfront tax payment can be substantial for an account balance as large as $2 million. If you are wondering about the answer to the question, “Should I put money in a 401(k) or Roth IRA?” it is essential to assess whether the long-term benefits outweigh the immediate tax costs of conversion.
Moreover, IRAs have lower contribution limits than 401(k)s. In 2023, you can contribute up to $22,500 to a 401(k) or $30,000 if you are 50 or older. On the other hand, the Roth IRA contribution limit in 2023 is $6,500 or $7,500 if you are 50 or older. This can be quite a bargain. IRAs also do not offer an employer match, unlike 401(k)s. In your 50s, you are likely to be working. Losing an employer match can put you behind your retirement goals.
Nevertheless, here are some benefits of a Roth IRA and a traditional 401(k) you must consider before you make up your mind:
- Benefits of Roth IRA: Roth IRA withdrawals in retirement are entirely tax-free, providing you with tax diversification and flexibility when managing your income during retirement. Roth accounts also do not have RMD requirements during your lifetime. This allows you to maintain control over your retirement income and potentially leave a larger inheritance for your heirs. Having a Roth IRA will enable you to strategize your withdrawals to optimize your tax situation based on your income needs and tax brackets. This account can also be an excellent vehicle for passing wealth to your heirs because they inherit the account tax-free.
- Benefits of Traditional 401(k): Contributions to a traditional 401(k) are tax-deductible. This helps you reduce your current tax liability and potentially provides more disposable income during your working years. Moreover, since you postpone paying taxes on contributions and earnings until retirement, your investments get to grow more quickly. If you anticipate being in a lower tax bracket in retirement, a traditional 401(k) may be advantageous as you will pay less tax on your withdrawals.
It is often advisable to consult with a tax advisor or financial planner who can run projections to determine the most tax-efficient strategy for your specific circumstances.
You can also consider moving to a Roth 401(k) account. This is a combination of the Roth IRA and traditional 401(k). You can ask your employer if they offer a Roth 401(k) and make the conversion. Whether you pick a Roth or traditional 401(k) account, the contribution limits and benefits of an employer match stay the same. However, you will pay tax on the converted amount.
You can also consider opening a Roth IRA if you have a 401(k). This can help if you do not want to pay tax on the conversion but, at the same time, are looking for tax diversification in retirement.
2. Assess your risk tolerance
Protecting your hard-earned savings of over $2 million from market volatility becomes paramount during this phase of your financial journey. If you are in your 50s, you are considerably closer to retirement, which means you must reassess your risk tolerance. Your risk tolerance is your capacity and willingness to accept changes in the value of your investments. It is crucial to determine the right investment strategy as you approach retirement. As you near retirement, your priorities often shift from accumulating wealth to preserving it and generating a reliable income stream to support your retirement lifestyle. With over $2 million in your 401(k), preserving capital should ideally take precedence for you. While higher-risk investments may offer the potential for greater profits, they also come with increased exposure to market volatility. In the years leading up to retirement and during retirement itself, protecting your savings from significant losses is critical to ensure you have the financial security you need. Ensure that your 401(k) is well-diversified across different asset classes, such as equity, bonds, and cash equivalents. Diversification spreads risk and can help provide stability in your portfolio. You can also consider allocating a portion of your portfolio to income-generating investments, such as dividend-paying stocks, bonds, etc. These assets can provide a reliable source of income to cover your needs and maintain your quality of life during retirement. Remember that retirement can last for several decades, so it is essential to maintain a long-term perspective. While it is crucial to protect your savings from market fluctuations, it is equally important to ensure that your investments can potentially outpace inflation and provide for your financial needs throughout retirement.
You can consult with a financial advisor who specializes in retirement planning. A professional advisor can assess your current risk tolerance and help you determine the appropriate level of risk for your investment portfolio based on your financial goals, timeline, and risk tolerance.
3. Maximize your 401(k) balance with catch-up contributions
While $2 million is a significant milestone, you should still try to enhance your account balance. If you find yourself in your 50s or beyond, you have a golden opportunity to enhance your retirement savings through catch-up contributions. As of 2023, individuals aged 50 and older can make additional contributions of up to $7,500 to 401(k) plans. You effectively supercharge your retirement savings by making extra contributions to your 401(k). This enables your investments to grow more rapidly. Maximizing catch-up contributions is not just about the extra $7,500 you contribute. It is also about the potential for compound growth. The sooner you start making catch-up contributions, the more time your investments have to compound. Over time, the compounding effect can significantly boost the value of your retirement savings.
Planning how and when you will make these additional deposits is crucial when considering catch-up contributions. You can spread catch-up contributions throughout the year. You can also set up automatic contributions if your employer offers this option. This way, you consistently save the extra amount without needing to remember manual contributions.
Catch-up contributions offer the same tax advantages as regular 401(k) contributions. You will not pay any tax on your contributions if you have a traditional 401(k). If you have a Roth 401(k), you will have taxable contributions. To determine if your 401(k) is a Roth account, you can check your Form W-2, Box 12, for code “AA.”. You can also review your account paperwork and statements or contact your plan administrator to clarify your 401(k) type.
4. Seek professional advice from a financial advisor
Managing such a significant retirement nest egg can be complex. Hence, seeking professional advice can be an essential step you should take to secure and optimize your retirement. Your retirement planning needs at this stage go beyond the basics. You are not just looking to save for retirement. You are also likely aiming to manage and distribute a substantial sum of money to last throughout your retirement years. A financial advisor can help you create a comprehensive retirement plan that addresses your income needs, tax strategies, and age. With $2 million in your 401(k), how you invest and manage your portfolio becomes crucial. An advisor can assess your current investments, diversify your portfolio to manage risk, and recommend suitable investment options to align with your retirement goals. They can also provide guidance on whether to adjust your asset allocation as you move closer to retirement.
A financial advisor or retirement planner brings a wealth of expertise to the table. They possess in-depth knowledge of retirement planning, investment strategies, and tax optimization. These professionals can help you create a tax-efficient withdrawal strategy that can potentially save you substantial amounts in taxes over the long term. They can also advise on Roth conversions, which may offer tax advantages in retirement. Additionally, they can help you structure your 401(k) withdrawals and other income sources to provide for your financial needs and maintain your desired lifestyle throughout retirement. Advisors can also provide continuous monitoring of your portfolio’s performance and make necessary adjustments to keep you on track to meet your retirement goals.
To conclude
Reaching the age of 50 with over $2 million in your 401(k) is undoubtedly a commendable achievement, one that puts you on a strong footing for a comfortable retirement. However, it is essential to approach this financial milestone with careful planning and a clear strategy to ensure that your retirement years are financially secure and fulfilling. While $2 million may seem like a substantial amount, it is important to remember that factors such as taxes, inflation, unexpected expenses, and changes in your financial situation can impact your retirement needs. Therefore, evaluating whether this substantial sum is enough to sustain your desired lifestyle throughout retirement is essential.
Ready to make the most of your $2 million 401(k) and secure your retirement? Start by using WiserAdvisor’s free advisor match service. Answer a few basic questions about your financial needs and get connected to 1-3 advisors best suited to meet your financial requirements.