Understanding 401(k) Calculators

Many 401(k) calculators claim to help you estimate the value of your 401(k) account over a set number of years. Simply enter when you expect to retire, your 401(k)’s current value, your salary, the percentage of your salary you contribute annually, your employer match and how much you expect your investments to return over time. In theory, the 401(k) calculators will illustrate the amount of money you’ll have by the time you retire. 

But before your start making life decisions based on that number, let’s review a few of the calculator’s factors, and see where they may fall short in helping you plan for retirement.

How many years until retirement?
This seems like an easy enough question—many expect to retire by a certain age. But life can get in the way. You might retire sooner or later than you expect. Plus, your investing time horizon doesn’t end at retirement. To reach all of their long-term goals, many folks need to remain invested and achieve some degree of growth throughout their retirement. By not accounting for this, the standard 401(k) calculator might encourage folks to under- or even over-save during their working years.

What’s your current salary?
Salaries change over the years. Usually, they grow as you advance in your career, but they can also plateau or fall, if, for example, you change career paths. Being aware of how your pay changes can help you plan better for retirement—don’t take your current financial situation for granted.

What percentage of your salary do you contribute? What percentage does your employer match?
401(k) contributions and employer matches are great ways to jumpstart saving. But how can you know today whether your contributions will remain the same over time? How do you know your employer will always match your contributions at the same rate? Assuming steady contribution rates could give you a false sense of retirement security. So can assuming a steady rate of growth over time...

What is your estimated return? 
Since 1926, stocks have returned an average annualized return of roughly 10%, and bonds 5%.* But that doesn’t mean stocks return 10% every year. Market returns vary—often in the extreme. Money you contribute at the beginning of a bull market will grow at a vastly different long-term rate than money you contribute just before a prolonged downturn. Straight-line calculations assuming a steady 5% or 10% return over time ignore this and could set you up for disappointment. Moreover, they can set you up to stress unnecessarily about being over or under where a straight-line calculation says you “should” be.

It can be educational to try out various hypothetical situations to see what long-term results are like. If nothing else, they illustrate the power of compound growth over time. But a simplified 401(k) calculator can’t tell you much about your own retirement planning—it’s no replacement for the personal retirement help Fisher Investments can offer.

*Source: Global Financial Data, Inc., as of 02/25/2014. Average annualized returns from January 1926 to December 2013 were 10.0% for the S&P 500 Total Return Index and 5.3% for the US 10-Year Government Bond Index.