How Gradually Increasing Contributions Can Drastically Improve Your Retirement Balance
When it comes to retirement planning, one of the most important strategies to consider is the power of consistency and gradual increases in contributions over time.
While many people understand the importance of contributing to their 457(b) plans, they often make the mistake of sticking with the same contribution amount year after year. This approach, while manageable in the short term, may not be enough to ensure financial security in retirement.
Instead, gradually increasing your contributions annually can have a drastic effect on the size of your retirement balance and help you meet your retirement goals with more confidence.
The Pitfall of Stagnant Contributions
The first challenge in retirement planning is the tendency to set and forget. Many individuals, particularly early in their careers, contribute a set amount to their 457(b) plan and never revisit it. While it’s great that they are saving, the reality is that this static contribution amount may not be enough to reach the desired retirement outcome, especially when inflation, salary increases, and changing financial goals are considered.
As the years go by, the cost-of-living increases, and lifestyle changes may demand a higher retirement income than originally anticipated. Simply contributing the same amount each year doesn’t take into account these factors, and over time, the purchasing power of your retirement savings can erode.
Furthermore, staying stagnant means missing out on the power of compounding interest. The earlier you start increasing your contributions, the greater the benefit of compound growth on your savings.
Without annual increases, the amount you put aside each week or month can start to feel like it’s falling short. This is a common problem that I see with many of my clients, particularly those who haven’t revisited their contribution strategy in years.
Real-Life Scenarios: The Importance of Annual Contribution Increases
As a financial advisor who works with 457(b) plans, I’ve seen firsthand how easy it is for people to fall into the trap of making contributions and never revisiting their strategy. I’ve worked with clients who started by contributing $200 per month to their 457(b) plans, which seemed reasonable when they first set it up. However, after 5, 10, or even 15 years, they found that their savings weren’t growing as quickly as they’d hoped.
For example, one client, a government employee, had been contributing $100 per week to their 457(b) for 15 years. When we looked at their account balance, it was far below what we expected based on their retirement goals. While they had been consistently saving, they hadn’t increased their contributions as their income grew. We ended up needing to make a significant adjustment to get their savings on track, but it was a difficult process because the years of stagnant contributions had left them playing catch-up.
If that same client had increased their contributions by just a small amount each year, they would have avoided this gap. Their contributions would have kept pace with inflation and salary increases, and they would have built a much larger retirement balance by now.
This is a situation I encounter often: people who wish they had started increasing their contributions earlier. It’s a much easier and more effective approach to start gradually increasing contributions at a young age, rather than scrambling to catch up later in their careers.
This is particularly crucial when you receive pay raises. By increasing your contributions in tandem with these raises, you avoid any impact on your standard of living because you’re already accustomed to living on your previous salary. Essentially, you’re saving more without feeling the difference in your day-to-day expenses, as your lifestyle remains unchanged.
What You Need to Know About 457(b) Plans and Compounding Interest
Let’s take a step back and review a few important concepts that can help clarify why increasing your contributions over time makes such a significant difference:
- Contribution Increases: Gradually increasing your contributions each year is essential to keeping up with rising costs and ensuring you’re saving enough for retirement. If you start by contributing a set amount and never increase it, your contributions will become less valuable over time, due to inflation and cost-of-living adjustments. Increasing your contribution by just a small amount each year allows your savings to grow at a pace that aligns with inflation and your evolving financial needs.
- Compounding Interest: Compounding is often called the “eighth wonder of the world” for a reason. It’s the process where the money you earn in interest (or dividends) on your savings generates additional interest. Essentially, your savings start earning interest on the interest you’ve already earned. This compounding effect is what makes long-term investing so powerful. The earlier you increase your contributions, the more time your money has to grow exponentially. This leads to a much larger balance in the future compared to static contributions.
So, What Do I Do?
Step 1: Understand the Impact of Not Increasing Your Contributions
If you don’t increase your contributions each year, your savings may not keep pace with inflation or rising financial needs. Let’s take a closer look at how the future value of your 457(b) can be impacted by contribution increases.
Scenario 1: Regular Contributions
- $50 per week for 30 years
- Assumed 8% annual rate of return
- Total contributions = $78,100
- Value after 30 Years = $306,000
Scenario 2: Gradually Increasing Contributions
- Starting at $50 per week and increasing by $10 each year
- Annual increases occur each year for 30 years
- Assumed 8% annual rate of return
- Total Contributions = $319,850
- Value after 30 years = $930,505
Here’s how these contributions stack up over time.
Step 2: Commit to Gradually Increasing Your Contributions
The key to building a larger retirement balance is the consistent and gradual increase in contributions.
Even small increases—such as an additional $10 or $20 each week—can make a big difference over time. A simple way to ensure you’re consistently increasing your contributions is to automate the process.
Some 457(b) plans allow you to set up automatic increases in your contributions. You can start by increasing your contributions by 1% to 2% each year, and over time, this will significantly boost your retirement savings.
Step 3: Schedule Annual Increases
The easiest way to make sure your contributions go up each year is to schedule increases with your financial advisor. By letting your financial advisor know about the increase, they can properly plan for the contribution increase. Some 457(b) plans offer an automatic increase function, but not all plans.
Step 4: Account for Raises and Bonuses
In addition to automatic annual increases, consider using raises and bonuses to boost your contributions. When you receive a raise, allocate a portion of that extra income to your 457(b) plan.
For instance, if you get a 3% raise, consider increasing your contributions by that same percentage. This strategy allows you to increase your retirement savings without feeling it in your day-to-day budget.
Step 5: Revisit Your Contributions as You Get Closer to Retirement
As you approach retirement, the need for larger contributions becomes even more critical. Reevaluate your financial goals and assess whether your contributions are still on track.
If you’re over 50, take advantage of catch-up contributions, which allow you to contribute even more in the final years of your career. This can help you maximize your retirement savings and make up for any shortfalls earlier in your career.
The Power of Gradual Contribution Increases
Gradually increasing your contributions to your 457(b) plan can have a massive impact on the final balance you accumulate for retirement.
By making small, consistent increases to your contributions each year, you allow your money to grow exponentially thanks to compounding interest. This simple strategy can dramatically increase your retirement savings over time and help you achieve your retirement goals more effectively.
Remember, it’s not about what you start with—it’s about consistently increasing your contributions to keep pace with inflation, rising income, and your evolving financial goals. The earlier you start, the greater the benefits you’ll reap down the road.