Your Employer’s Contribution

Yesterday’s post illustrated the example of someone in his working years saving toward a retirement goal. But maybe there’s a third leg to your two-legged stool. Maybe your employer is helping with your retirement saving by contributing to your retirement plan. They might not be helping you with any of the decision-making (how much to save, how to invest it), but at least they might be helping with some of the dollars.

In yesterday’s example, Ernie figured he needed to save $11,426 of his $100,000 annual salary. Let’s add another fact: Ernie’s employer sponsors a 401(k) plan, and has consistently made annual contributions to it. In fact, his employer has said that it will match 50 cents on the dollar of its employees’ contributions, up to a maximum employee contribution of 6% of salary. Employees may contribute more, but only the first 6% of salary will get matched.

So Ernie figures he’ll contribute at least $6,000 (= 6% x $100,000) and his employer will contribute $3,000 (= 50% x 6% x $100,000). Ernie’s savings burden is reduced to $8,426 (= $11,426 - $3,000). Alright! That’s only 8.4% of his salary, an acceptable burden.

In this example, Ernie’s employer historically matched 50% of the first 6% employee deferral. That’s a typical employer matching scheme, but by no means the only one. Your employer’s match may be 25 cents on the dollar, or may be capped at 8% of your salary. Or maybe your employer doesn’t provide a matching contribution, but has historically made contributions for all employees, varying with its annual profits. Or maybe your employer doesn’t provide any contributions whatsoever (the cheapskates!). Or maybe they have provided matching contributions in the past, but this year announced a temporary suspension in light of the crummy economy.

All of that variability leaves you with the burden of projecting (not predicting, projecting) how much your employer will contribute in the future. If you take the conservative approach, and project no help from your employer, then the Present You will have to save more and spend less. And if your employer then in fact makes contributions, the Future You will be able to reduce his contributions and increase his spending. Or, conversely, if you assume your employer will continue to contribute, but it does not, the Future You will have to increase his rate of contributions and take a cut in take-home. I say go with the odds and make your savings decision based on your assessment of the most likely scenario.

So now Ernie thinks he has his annual savings goal—$8,426 per year. Not so fast, Grasshopper. If you will remember back to last Friday’s post when we invented Ernie, one of the givens we started with was that Ernie was saving $6,000 per year. Now he figures it should $8,426 per year. Which is it? Maybe neither. But that’s a subject for a later post.