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Do You Think You Can’t Afford A 401(k)? Check Your W-4

By Julie Jason, originally posted on Forbes.com.

If you are eligible for a company 401(k) plan, but haven’t signed up because you can’t afford to contribute to the 401(k), I have two questions for you: Does the plan have a match? And, do you get a tax refund? If so, we need to talk.

I’d also like to talk with all of the people who participated in the CNBC Your Money Survey in August who do not contribute any money to an available 401(k) or employer-sponsored plan (41% of those surveyed).

If your plan offers a match and you get a tax refund check, you are missing something important. Consider this: You have the power to essentially turn that refund check into a 401(k) contribution to earn that match, in the best case, without lowering your paycheck.

Let me show you an example.

The ‘Cost’ of a 401(k)

Let’s take a hypothetical 25-year-old woman who decided against contributing to a 401(k) at work because of affordability issues. Her paycheck just doesn’t go far enough to make a contribution possible. She hasn’t even considered the plan’s generous dollar-for-dollar match before making a no-go decision, because there is simply no extra money left after paying bills.

However, she gets a nice tax refund every year, which she sees as forced savings. Each year, she dutifully deposits her refund check into her savings account in order to save for retirement.

By doing so, she is missing out on the company’s match and the other benefits of participating in her 401(k).

But probably more importantly, she is not aware that it’s up to her and her alone to make a change — and I can’t fault anyone in her position. 401(k) education needs improvement. I must say that I have not seen any 401(k) educational programs or heard of any employers who help people in her situation. No one told her about the interplay between tax refunds, tax withholding, paychecks, 401(k) contributions, and company matches. She is not aware that she could have used sage advice before making the costly mistake of not taking part in her company’s 401(k).

Avoiding Mistakes

Are you in this woman’s situation? Are you making the same mistakes?

  • Mistake #1: Thinking you can’t afford to contribute while getting a tax refund.
  • Mistake #2: Dismissing the value of the company match before doing your 401(k) math.

The Fix

I need to show you the future before you can see the “why” behind fixing her mistake.

Imagine that she is now participating in her 401(k). She is making a pre-tax contribution of $175 per month ($2,100 a year). Her company offers a generous dollar-for-dollar match, which vests immediately in this example. The match of $2,100 adds to her $2,100 contribution, so that she has $4,200 in her 401(k) instead of $2,100. To make the point more clearly, the dollar-for-dollar match doubles her money without the need to wait for investment results — thank you, 401(k).

As an aside, the most common match is 50 cents on the dollar, which gives you a 50% return on your money.

Lost Opportunity

In this woman’s case, if she doesn’t go forward with her 401(k) contribution, she loses the match of $2,100 — that’s just for one year. Imagine if she invested that $2,100 match in an S&P 500 Index fund, which is an investment choice in many 401(k)s, and just held on for 40 years until she retired at age 65. That one-time $2,100 match could be worth somewhere between $62,000 and $230,000 when she is 65, based on a comparison of worst-to-best 40-year historical returns from the late 1920s through 2022.

Imagine if she continued to participate in her 401(k) during her entire 40-year career. Historical S&P 500 Index returns would put her yearly matches alone in the range of $920,000 (worst case) to $2.7 million (best case). Double those amounts if you include her annual contributions of $2,100.

You may say that’s all great. But what about her take-home pay? Didn’t she say she can’t afford to have her paycheck reduced? This is where the W-4 comes into play.

Form W-4 and The IRS Tax Withholding Tool

IRS Form W-4 tells your payroll department how much to send to the IRS for tax withholding – that amount needs to cover the taxes you’ll be paying. But, we know that this woman gets a tax refund every year. That means she is overdoing her withholding and is in effect lending money to the U.S. Treasury, which is returned to her through that refund check.

Luckily, the IRS has a tool, the Tax Withholding Estimator, to help her review her tax withholding.

Using the tool, she can compare a few hypothetical situations before deciding on a go/no-go 401(k) decision. How would that work? She would do a what-if to see how her take-home pay would change with and without a tax refund and with and without a 401(k) contribution.

The what-if will show her that before contributing to the 401(k), her paycheck was already being reduced — for what? To send extra money to the IRS for excess tax withholding, money that would be returned to her in her refund check.

By eliminating her excess withholding, she eliminates the refund check, which means that money is increasing her take-home pay by the amount of her refund.

That extra money is now available for her to direct into her 401(k) contribution, earning her that company match.

Why lend money to the U.S. Treasury if you can increase your paycheck? And, why not use that extra money in your paycheck (from stopping the tax withholding) to participate in the 401(k) — all without lowering your take-home pay?

This woman is now saving for her future retirement in a way that leverages the company’s contribution, allowing those matching funds and her contributions to benefit from the power of compounding – the earlier she starts, the longer those funds have to work their compounding magic.

Using the Estimator

When you use the Tax Withholding Estimator, you’ll find that the amount of your paycheck will depend on the interplay between your W-4, W-2, and the 401(k) contribution. Do some what-ifs. Your goal is to reduce or eliminate your tax refund, thereby increasing your paycheck so that you can afford to participate in your 401(k).

401(k) Vesting

In my example, the woman’s match vested immediately. That means that if she leaves the company, she will be able to take the company match with her as part of her 401(k) balance. Other company 401(k)s might delay vesting in accordance with a schedule. For example, each year, a company contribution may vest in increments of 20%, with the fifth year being fully vested.

Are You a Champion of 401(k)s?

If you participate in your company’s 401(k) and are eager to tell your success story, you can do that in a national essay contest that is currently underway. The 401(k) Champion Competition is a pro bono educational initiative that I created, fund and sponsor in my role as a proponent of financial literacy. My goal is to encourage 401(k) participants to share their knowledge and enthusiasm – everyone can use a mentor when it comes to why it’s important to fund your 401(k). One of the 2022 401(k) Champions, Kevin Alexander, put it this way in his essay for the competition: “I’ve received a lot of advice over the decades. . . . The best advice I ever received? Start a 401(k) and do it today.”


To keep up with topics that I cover, be sure to follow me on the forbes.com site (and if you would like to subscribe, check out the red box at the top right). Write to me at forbes@juliejason.com. Include your city and state, and mention that you are a forbes.com reader. While all questions cannot be answered, each email is read and reviewed and can lead to discussion in a future post.

Disclosure: The author funds 100% of the costs of running the annual 401(k) Champion essay competition mentioned in this post as part of her firm’s pro bono mission to promote financial literacy education. Three yearly winners each receive $1,000.