Do you max?

Posted by and on November 1, 2013 @ 10:30 am in Retirement

Our mothers always taught us that “everyone else is doing it” isn’t a good reason to do something. But when it comes to IRA contributions, it looks like “everyone else” may actually be right.

Retirement is expensive. IRAs are one of the best ways we have for preparing for that reality. In fact, making the most of tax-advantaged accounts is one of the easiest things you can do to boost the tax-efficiency of your portfolio over the long term. So if you’re not taking advantage of the full benefit that these accounts offer, now’s the time to start.

An analysis of IRA contributions made by Vanguard clients since 2007 shows that half of investors that made a contribution, contributed the maximum amount. That’s great news, especially when you consider that we’re only looking at Vanguard contributions (some portion of the other half are likely contributing the max as well, but splitting their contribution among investment companies).

Even better news: It’s not just older investors who are investing the maximum amount allowed. Take a look at the accompanying graph, which shows, by age, what percentage of people who made an IRA contribution at Vanguard did the maximum for the 2012 tax year. By age 25, nearly half of investors maxed out their savings.

Figure 1:  Percentage of contributing investors who contributed the max in 2012, by age

Percent contributing max chart 1

Source: Vanguard

But what’s going on at age 50? Why the drop in the percentage of people who contributed the maximum? The answer may be that some people aren’t aware that they can make an additional $1,000 “catch-up” contribution after they turn 50. Let’s see what this graph looks like if we consider the catch-up provision.

Figure 2:  Percentage of contributing investors who contributed the max in 2012, by age

Percent contributing max chart 2

Source: Vanguard

It appears that some people are missing out! If you’ll be 50 or older in 2013, don’t forget to contribute your extra $1,000!

Also, don’t forget that the limits have increased for 2013. You can now contribute $5,500 if you’re under 50 in 2013, and $6,500 if you turned 50 or older. The last time the limits increased, in 2008, the percentage of contributing investors who put in the max fell by 10 percentage points.

You might think that this drop is better explained by the global financial crisis than by a lack of awareness, and that might be part of the reason. After all, the number of people who made any contribution also dropped by about 10 percentage points in 2008. But if we look at the percentage of people that contributed the 2007 max amount or greater in 2008, a drop is difficult to discern.

Figure 3:  Percentage of contributing investors who contributed the max, by age

Percent contributing max chart 3

Source: Vanguard

One takeaway: In looking at Vanguard’s IRA investors, we find that more than half max out their contributions. So stop and ask yourself if you max. If you do, that’s great, and we encourage you to continue to do so. If you don’t, then ask yourself why not and get a plan in place so that you can get to the max. Down the road you’ll be grateful that you did.

The authors would like to thank John Rykaczewski in our Client Insight Group for helping to acquire the data used in this blog post. 

Notes:  All investing is subject to risk, including possible loss of principal. When taking withdrawals from an IRA before age 59/-1/2, you may have to pay ordinary income tax plus a 10% federal tax penalty.

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