Want to Be a 401(k) Millionaire? 4 Tips All Future Retirees Should Know

Given that the average 401(k) balance for the 65-and-over crowd is in the ballpark of $270,000 (according to Vanguard), it’s safe to conclude there aren’t many 401(k) accounts worth $1 million or more. Indeed, the average is weighed down by a whole bunch of people with much smaller retirement accounts.

There are certainly some seven-figure 401(k) accounts, however — and some of them are owned by folks who were ordinary wage earners. Retirement plan administrator and fund company Fidelity reports that about 2% of the 23 million participants in its workplace retirement plans have million-dollar-plus balances.

So what did the few do that the many didn’t? Here are four things the typical 401(k) millionaire knew — or knew to do — when building their nest egg.

1. Max out your “free money”

Most employers that offer 401(k) plans also will contribute additional funds to match some portion of their employees’ contributions. Granted, it’s usually not a massive amount. The employer’s contribution is typically capped at 6% of the employee’s wages, and Fidelity reports last year’s average employer contribution was only 4.8% of a worker’s wages.

Still, that can be a few thousand bucks a year for most workers.

The catch: Most employers only put in their contributions to the degree that you make yours. If your company offers a 100% match on the first 6% of your wages that you contribute, and you only route 3% of your wages into your 401(k), your company will contribute just 3% as well. If you’re not putting any money of your own into a 401(k) account, your company won’t put in any either.

So, quite simply, you should always aim to contribute at least enough to get the maximum matching funds that your employer is offering. That’s free money that you should not leave on the table.

Obviously, you don’t have to only contribute the minimum required to secure your company’s maximum contribution to your retirement savings account. Even contributions that are not matched offer you the ability to invest for the long haul and reduce your taxable income while you’re working. So you should contribute more, if possible, presuming you like the plan’s options.

2. Your plan’s best-performing fund option might be the simplest one

Your 401(k) plan will most likely be administered by a mutual fund company, and more often than not, it will limit your investment options to its proprietary funds. That’s fine. These are probably cost-effective for the administrator, and therefore cost-effective for you.

Just because a fund is available to you within a 401(k) plan, however, doesn’t necessarily mean it’s a great choice for you. In fact, you may be best served by sticking with that fund company’s least exciting offerings — index funds that track the performance of familiar benchmarks like the S&P 500 or the Nasdaq Composite.

Believe it or not, most actively managed mutual funds that aim to beat the market end up underperforming it. Data regularly gathered by Standard & Poor’s shows that over the course of the prior five calendar years, nearly 79% of large-cap mutual funds available to U.S. investors trailed the performance of the S&P 500. Over the prior 10 years, 87% of these mutual funds trailed the index.

It’s possible that one of your plan administrator’s funds could be the exception to this statistic. That’s unlikely to be the case, though. The strategy with the best odds of success and the lowest risk is arguably to invest in mutual funds that are designed to match the broad market’s performance.

3. Don’t settle for any of the default options

Although it’s not common, some employers — and even some states — require employees to be automatically enrolled in a 401(k) retirement plan if the company offers one. The employee doesn’t even need to fill out any paperwork — if they don’t make an active choice to either opt out or to pick their own investment choices, their employer simply auto-enrolls them using the default contribution and investment options.

But it’s your future financial health at stake, so it’s better for you to take an active role and pick your investment options. Fill out the required paperwork, and choose to deposit a meaningful percentage of your wages to your retirement account. Again, be sure it’s enough to qualify for every dollar of matching funds that your employer is willing to contribute on your behalf. That should be your minimum starting point.

Perhaps the real stumbling block with the default options for most 401(k) plans, though, is the funds you’ll end up owning. These will likely be target-date funds, which feature portfolios that become more conservative the closer you get to retirement age. While that’s a well-meaning approach to the problem of managing asset-allocation risk, it’s a one-size-fits-all solution that may not actually be what’s best for you. You’ll still usually be better served to hand-pick your allocations. That’s likely going to require a little paperwork as well.

4. It really is a matter of time

Last but not least, as wisely as most 401(k) millionaires may have navigated their choices, most of them would still concede it wasn’t their brilliant actions that did most of the heavy lifting. Time and the power of compound growth did the bulk of the work. The investors just provided the seed money.

The graph below illustrates this idea by plotting the growth of a portfolio built on $7,000 annual investments into an S&P 500 index fund delivering an annualized return of 10% per year. Over the course of 30 years, this hypothetical individual would contribute $210,000 worth of principal to the account. But because each year’s value growth can produce growth of its own in subsequent years, your overall gains snowball. End result? A nest egg worth a little over $1 million at the end of the three-decade stretch, with most of that reflecting returns on invested money.

This hypothetical example isn’t a completely accurate depiction of what you can expect from your 401(k). What’s not reflected here is the market’s volatility. Although the S&P 500’s average returns have been around 10% per year, individual years’ results vary widely. In some years, the market gains 20% or more in value. In other years, it loses ground.

The important takeaway is still the same though, and the chart makes it evident. There’s a point in time when most 401(k) millionaires start seeing their retirement accounts get really big. More than half of their net gains come in the last one-third of the investment period when the growth from their previous gains becomes a markedly bigger factor than their contributions of new money. The key is simply sticking with the plan during the first two-thirds of your career, continuing to make steady contributions even when progress feels slow.