Millions of Americans rely on employer-sponsored 401(k) plans to secure their retirement. These plans hold a staggering $6.3 trillion in assets, benefiting over 60 million active participants and countless retirees and former employees, according to the Investment Company Institute. But do you know what the average return on a 401(k) investment is? Let’s dive in!
What is Considered a Good 401(k) Return?
The average annual return for a 401(k), based on a standard portfolio mix of 60% stocks and 40% bonds, typically ranges from 5% to 8%. However, the goodness of a 401(k) return depends on how it is invested. Krisstin Petersmarck, an investment advisor representative at Bridegriver Advisors in Bloomfield Hills, Michigan, emphasizes the importance of investment choices in determining returns.
Returns can fluctuate from year to year, correlating with the overall stock market performance. For example, the AmericanTCS 401(k) Composite Benchmark reported a +14.9% return in 2021 but a -16.7% return in 2022.
What Affects Your 401(k) Return?
Given that a significant portion of 401(k) funds are invested in the stock market, returns are greatly influenced by market performance. Strong stock markets can elevate 401(k) returns, whereas weak markets can weigh them down. To shield your 401(k) from potential losses, consider diversifying your investment portfolio across multiple options.
Petersmarck recommends allocating some funds to a money market fund, a low-risk type of mutual fund that focuses on short-term debt. Although money markets provide downside protection, they offer limited upside potential. Mutual funds, which collect money from multiple investors to purchase various investment products, are the most popular type of 401(k) investment.
Other factors affecting 401(k) returns include projected retirement age, job tenure, management fees, tolerance for investment risks, employee contributions, and employer matching contributions.
How to Calculate Your 401(k) Annual Return Rate
Calculating the annual return rate for your 401(k) is relatively simple. Start with the beginning balance of your 401(k) account. Suppose it is $30,000. Over the year, you contribute $12,000, and the year-end balance is $45,000. The investment gains beyond your contributions are $3,000 ($45,000 – $30,000 – $12,000 = $3,000).
To calculate the annual return rate, use this formula: (Gains / ending balance) x 100. In our example, the formula would be:
($3,000 / $45,000 ) x 100 = 6.66%
Therefore, the annual return would be 6.66%.
What Can I Expect the Return to Be in 2023?
Concerns about poor investment returns in 2023 loom among 48.7% of 401(k) participants, according to a survey by 401(k) company Ubiquity. While the exact trajectory of 401(k) returns in 2023 remains uncertain, they heavily depend on stock and bond market performance. Economists predict a potential recession in 2023, along with high inflation and interest rates, which could impact 401(k) plans negatively.
Despite a volatile outlook for stocks, bond prices are expected to rebound, as suggested by investment brokerage Charles Schwab.
401(k) Alternatives
Although 401(k) plans are popular retirement savings vehicles, several alternatives are worth considering:
Annuity
Annuities are commonly purchased to supplement retirement income. They involve a contract between you and an insurance company, with premiums paid in exchange for either a one-time payout or a series of payouts. U.S. annuity sales reached $310.6 billion in 2022.
Traditional IRA
Contributions to a traditional Individual Retirement Account (IRA) are made on a tax-free basis, with taxes paid upon withdrawal. Traditional IRA ownership in the United States reached 40.9 million households in 2022. Investment options for traditional IRAs include stocks, bonds, mutual funds, and exchange-traded funds (ETFs).
Roth IRA
Contributions to a Roth IRA are made with already-taxed money, allowing for tax-free earnings and withdrawals in the future. In 2022, 32.3 million U.S. households owned Roth IRAs.
Brokerage Account
Opening a brokerage account at an investment brokerage grants flexibility to buy and sell investment products, such as stocks, bonds, mutual funds, and ETFs. While brokerage accounts offer fewer tax advantages, they provide greater flexibility. Some brokerage firms, like Empower, offer personalized portfolio building services tailored to your goals.
Real Estate
Real estate investments can generate retirement income, including short-term residential rentals, long-term residential rentals, warehouses, hotels, and undeveloped land. Additionally, investing in real estate investment trusts (REITs) allows individuals to purchase shares of companies that own income-producing properties.
FAQs
What is the typical annual return for a 401(k)?
Based on a standard 60% stocks and 40% bonds portfolio mix, the average rate of return for a 401(k) generally ranges from 5% to 8%.
What is the most common type of investment in a 401(k)?
Mutual funds are the most popular investment choice in a 401(k).
What is the average balance in a 401(k)?
According to investment brokerage Fidelity, the average 401(k) balance was $103,900 in the fourth quarter of 2022.
What do I do if I can’t find my old 401(k)?
If you’ve misplaced your old 401(k) account, services like Beagle Financial Services can help you locate it.
For more information on personal finances and retirement planning, visit Personal Finances Blog.