Getting a Raise Doesn't Guarantee Your Long-Term Financial Success. Here's Why and How You Can Fix It
Can't wait for the good news at year end about your raise or promotion? Think it'll solve all your financial problems? Well, maybe not.
Eagerly anticipating your end-of-the-year raise or maybe even a promotion? You might be able to envision it already: Your boss calls you into his office and shoves a white envelope across his desk toward you. You thank him heartily and think, "Whew. This'll solve everything."
Sound familiar? If you've ever caught yourself saying, "If I get this raise, I'll save more money," or "If I make more, I can pay off all my debts and then I'll have more to invest."
The amount of money you make doesn't always guarantee that you'll end up with $2 million or more in the bank upon retirement.
Now, it's worth pointing out that there's no defined definition of "financial success." What does it mean to you? Achieving a specific net worth? Owning a camper, three boats and a Corvette? It's all relative, but earning more doesn't always guarantee that you'll "get there." Let's determine why and help you get where you want to go.
Reasons Why Salary Raises Don't Guarantee Long-Term Financial Success
Promotions and raises aren't always a financial slam dunk. Let's walk through a few obstacles that tend to get in the way.
Reason 1: Lifestyle creep sets in.
You've likely heard of lifestyle creep, which involves treating past luxuries as necessities as you make more money. In other words, let's say that you suddenly decide you now need your formerly once-every-five-years vacation every six months because you feel flush with cash.
Lifestyle creep can erode larger financial goals like saving for an emergency, putting money into a retirement account or saving for other, important things, like a down payment on a house.
Reason 2: You may not have clearly defined goals.
Trying to get to retirement without knowing how much you save is like starting a race without a finish line. How far can you run before you realize you need an end goal? If you say, "I'd like to save $2 million and retire by age 60," you now have a goal you can work toward. You can easily pull up a retirement calculator and plug in some numbers. "If I save $X amount of money over the course of 30 years, I'll have $X amount saved by age 60 if I save $X per month." Of course, you can get a robo advisor or a financial advisor to do all the fancy calculations for you.
However, if you flop around, not really putting money into your company 401(k) or starting and stopping a Roth IRA a dozen times, those are good signs that you don't have a clearly defined end goal.
Identifying an end goal and working toward it incrementally can make you feel so good because you know what you're working toward. It can be really tough to identify these goals, especially knowing how much you should save for retirement, so ask a professional for advice. (Quick hint: Many experts recommend having at least 10 times your current salary saved by age 67.)
Reason 3: You're not saving enough.
Despite an increased salary, you still might not allocate enough toward a defined contribution retirement plan or another method of long-term savings for retirement.
You're not the only one. Those who have a 401(k) at work may struggle to maintain their standard of living in retirement at a rate of 48%, according to a 2019 report by the Center of Retirement Research at Boston College.
A study by the Employee Benefit Research Institute found that consistency is key. The accounts of 1.9 million consistent 401(k) participants from 2010 to 2018 showed that their balances rose from $63,756 to $180,251 on average over those eight years. Changes in their 401(k) plan account balances reflect contributions from both employers and participants and investment returns, among a few other factors.
The only way to combat this problem? Go back to the goals you've set and determine how much you'll need to contribute to your retirement plan each month to meet those goals.
Reason 4: You aren't taking advantage of the max or catch-up contributions.
If you've spent a few years dilly-dallying (we all do at some point!), don't feel bad — just take action!
You can make a maximum deferral of $19,500 to a 401(k) in 2021 with a catch-up contribution of $6,500 allowed if you're aged 50 or older. Your employer and you can both make a maximum contribution of $58,000 to your 401(k), with a $64,500 limit with a catch-up contribution.
For the 2022 tax year, the 401(k) contribution limits will likely change, so keep an eye out. Contribution limits have been on a steady rise since the 401(k) was introduced, except in a couple of years where the limits had to be corrected to simplify and encourage the use of 401(k)s.
What about individual retirement accounts (IRAs)? If you're contributing to an IRA or Roth IRA, you can contribute $6,000. You can kick in an additional $1,000 catch-up contribution to an IRA in 2021 if you're 50 or older. This means you can increase to a maximum possible IRA contribution of $7,000.
Adding as much as possible to the types of accounts you choose to invest in for retirement can make a huge difference over the long haul.
Also, take advantage of your employer's matching contributions — you give up free money when you ignore it.
Reason 5: You have debt.
Your debt might hold you back from making real financial headway, because all your extra money goes toward paying off credit card balances instead of into your retirement fund.
Aggregate household debt balances increased by $313 billion in the second quarter of 2021, according to the Quarterly Report on Household Debt and Credit. This shows a 2.1% rise from the first quarter of 2021 to a total of $14.96 trillion.
Debt doesn't allow you to get ahead of your finances and certainly doesn't help you focus on your long-term financial success. Work on paying off your debts and staying out of debt so you can focus on your goals.
Guarantee Your Long-Term Success
Don't put the pressure on your raise or promotion to guarantee your financial future. It can't handle it! You have to mind the other outlying factors first.
Finally, define your own definition of long-term success. What does it mean to you? It shouldn't look like your neighbor's, your brother-in-law's or anyone else's version of success — it should look like your very own.
At the very least, consider what you can do better from last year — increase your retirement contribution by 5% more, pay off your highest credit card balance, etc. Your raise or promotion is only one little tool in your arsenal to get there.