"A penny saved is a penny earned," said Ben Franklin -- in an era when a penny was real money. The principle remains the same, though. Every penny and every dollar counts, especially if instead of spending it, you put it to work for you.
Sadly, by the time that lesson is learned, most people have lost the advantage of time -- the rarest commodity and the one that leverages every penny.
There's a very illustrative story about the boy who was asked whether he would rather have $5 million in 31 days -- or one penny doubled every day for 31 days. The boy chose wisely. That one penny doubled every day for a month would grow to $10,737,418.24 in just 31 days!
Surely, there's no investment that could double every day. But even a far more reasonable rate of return would be an improvement over money down the drain. Or money that is simply overlooked.
Billions Down the Drain
That's what's so shocking about a report from Financial Engines, the company that provides investment advice to 401(k) plan participants at most of the Fortune 100 companies and over 500 other corporations.
Judging by the plan participants whose accounts they survey, Financial Engines estimates that American workers are losing $24 billion in employer matching contributions each year!
That estimate is for those who don't contribute enough to get the full match on the contributions they make. But if you add in the number of employees who fail to sign up for 401(k) plans when they are eligible, or opt out when the company starts taking deductions from their paycheck, then the amount lost is much greater.
Many companies offer to match employee contributions dollar for dollar, up to six percent of their earnings. Others offer only 50 cents on the dollar. Either way, those who pass up that free money are cheating themselves out of a future secured retirement.
According to Ibbotson Associates research, the historic average annual return (since 1926) return of a diversified portfolio of large-company American stocks, with dividends reinvested, inside a tax-sheltered retirement account, is 10 percent.
So if an employee were to contribute $1,000 to a 401(k) plan and get a $1,000 match, for a total of $2,000 per year -- every year for 30 years -- in that diversified portfolio (the S&P 500 index fund), and if the market continued to give similar average annual returns over the next 50 years, then the account would be worth nearly $2.5 million dollars!
This is the perfect place for a disclaimer: There's no way of predicting that the American stock market will do as well over the next 50 years as it did in the past 90 years. But that period did include many frightening crises, including the Great Depression, World War II, the "great inflation" of the late 1970s, the credit crunch in the early 1980s that included a prime rate of 15 percent -- and more recent economic shocks that we all remember. And still the average return was impressive.
The Opportunity Cost
More importantly, it doesn't really matter what the return on your investment is -- if you don't make the investment!
You'll never know the opportunity cost of NOT making enough of a 401(k) contribution to get the full match, or of missing out entirely on the potential growth of your money -- and the matching contribution.
The arguments for not contributing to a company 401(k) or nonprofit 403(b) plan may seem appropriate at the time.
--You tell yourself that you need the money more to pay for a roof over your head, or food for your family.
--You tell yourself that you'll start later, when you have more money, because the little bit you have can't possibly amount to much.
--You tell yourself that investing in the stock market is a fool's game -- just look at all those huge market declines.
--You tell yourself that you don't know enough about investing to do it well, so you'll probably be a loser.
But as "sensible" as those reasons might seem they do you a great disservice. You do have enough money to set aside every month -- and it's already happening.
Just take a look at that huge deduction for FICA -- Social Security -- from your paycheck every month. You can't tell the HR department that you can't afford it! Yet, ultimately, it will provide only a portion of what you need to maintain your standard of living in retirement.
There's free money from your employer and plenty of help available from your plan sponsor. Not taking advantage of that opportunity is the greatest financial mistake you will make. And that's The Savage Truth.
