Don't Think About Maxing Out Your 401(k) Unless You've Hit These 4 Goals

Maxing out your 401(k) is a noble financial goal. By sacrificing now and investing money, your retirement years will be more comfortable. The earlier you get started, the more time your money has to compound and grow.

The problem is that it takes a lot of money to max out your 401(k). In 2024, the 401(k) contribution limit if you're younger than 50 is $23,000. If you're 50 or older, you can contribute up to $30,500.

If you can afford to sock away that level of cash, great. But for someone with relatively average earnings and expenses, those numbers are probably out of reach. But that's OK. Before you aim to max out your 401(k), here are four better goals to aim for instead.

1. Pay off credit card debt

Paying off credit card debt will give you a much greater return than maxing out your 401(k) in a typical year. The average credit card interest rate is over 21%, whereas average annual stock market returns are around 10%.

In other words, if you invest $100 in your 401(k), you'd typically have about $110 at the end of a year. But after a year, a $100 credit card balance would balloon to about $121 in debt.

Because the cost of credit card debt is higher than typical 401(k) returns, aim to pay off your balance before you make maxing out your 401(k) a priority. A balance transfer credit card can be an awesome tool for getting out of debt and saving money on interest.

2. Build an emergency fund

Before you max out your 401(k), you need a solid emergency fund in place. A high-yield savings account is a great place to store that money. You typically want enough to cover your bills for three to six months so you're protected from the unexpected, like a large medical expense, home repair, or job loss.

Turning to your 401(k) in an emergency is extremely costly. When you invest in a 401(k), you're essentially locking up your money for a long time. Any withdrawals you make before age 59 1/2 will typically be subject to a 10% early withdrawal penalty on top of applicable income taxes. Because investments fluctuate in value, there's also the risk that you'll need money when the market is down and you'll be forced to cash out investments at a loss.

3. Max out your Roth IRA

It almost always makes sense to contribute enough to get your company's full 401(k) match. After all, who would say no to free money? But if you're considering making unmatched contributions to your 401(k), it's usually a better move to max out your Roth IRA first.

The best Roth IRA brokers charge low fees and let you invest in virtually any stock, bond, mutual fund, or exchange-traded fund (ETF) you want, whereas with a 401(k), you have higher fees and a relatively limited menu of investments. Plus, unlike a 401(k), an IRA isn't tied to your employer. If you change jobs, you won't have to worry about a 401(k) rollover.

After you've maxed out your Roth IRA, you can decide whether making unmatched 401(k) contributions is worth it.

4. Save for medium-term goals

You probably have a lot of financial goals you want to accomplish before retirement. Perhaps you want to buy a home, build college savings for your kids, or take your dream vacation.

Sometimes, striking a balance between saving for your long-term needs in retirement vs. your goals that are a few years out is the best course of action. But remember that the years in between now and your retirement years matter, too. It's important to consistently invest for retirement, but if your nest egg is on track, you may find that saving for a medium-term goal makes more sense than maxing out a 401(k).

How much should you save in your 401(k)?

Usually, you want to replace about 80% of your pre-retirement income. To get there, aim to save at least 15% of your pre-tax income for retirement in a 401(k), IRA, or a combination of the two.

You may need to adjust those goals based on your circumstances. If you got a late start on saving or you're aiming to retire early, you may need to save more. However, you may be able to get away with saving less if you started investing early and you'll be retiring with no debt.

Your first priority is to take advantage of your employer's 401(k) match. Beyond that, the amount to aim for each year depends more on your income and budget than whatever contribution limit the IRS sets.