My birthday happens to be this week. There won’t be much celebration, as it’s never been something that I cared to make a big deal about. After your 21st birthday, what does it really matter? I do use the occasion as an excuse to boil lobsters, but that’s more of a New England thing and not so common in Virginia. Maybe I’ll steam up some blue crabs?
One tradition that has survived in my family through the years is that a few relatives send me a birthday card. They have been doing this for decades, and so it has continued this year. Curiously, one of these relatives sends my birthday card express mail nearly every year (including this one). In other words, they are forced to send the card using expedited services, year after year.
Since I am weird, I spent some time pondering this fact over the last couple days. Presumably, this unnamed relative thinks about preparing and sending a card to me every year. Maybe they set a reminder, or just happen to remember when they look at the calendar earlier in the week. They know that they need to place the card in the mail approximately 3 business days prior to my birthday in order for me to receive it on time. Then they forget to mail it, or put it off for some other reason. Now it is 2 days before my birthday, and they must go to the post office (or FedEx) and pay an additional postage fee to ensure that my card arrives on time.
Why does this happen? My birthday happens to be the same day every year, so it hasn’t caught them by surprise. They can easily plan out the deadlines for obtaining, signing, and shipping the card. But, inevitably, this deadline for first-class delivery comes and goes every year, and they are forced to expedite. It cannot be a matter of paying for convenience, since they can place USPS first class mail in their own mailbox and put up the flag. Expedited services require additional time and effort.
The only explanation I can come up with is this: they procrastinate, year after year, because they know that there’s a last-minute alternative. Four or five days prior to my birthday, they have not hit the deadline, so they continue to put it off. But once it is 2 days before the big event, they have to act. And since they know that express shipment is always an option, they default to this process. Year after year.
There’s an interesting provision in the United States tax code that allows aging employees to make additional contributions over the standard limit to their retirement plans, which are aptly called “catch-up contributions.” In 2021, you can contribute an additional $6,500 to your 401k (on top of the $19,500 limit) if you are age 50 or older. You can also contribute an extra $1,000 to your IRA.
To be honest, I had not previously given much thought to the catch-up contribution provision. Most people would probably think, “this is a good thing, because it allows people who are closer to retirement to put invest more funds in tax-advantaged investment vehicles, which will help them to reach their retirement goals. This is a win-win situation for all parties involved.”
There are a couple problems here, though.
First off, how many people actually take advantage of catch-up contributions? How many people who didn’t save enough for retirement in their 20’s, 30’s, and 40’s, suddenly decide to divert $26,000 per year to their retirement funds?
According to Vanguard, only 15% of workers took advantage of catch-up contributions. Some percentage don’t need to contribute more in their 50s, but that’s probably a small proportion of the population.
Second, among 50-somethings with no prior predilection for saving and a need to make catch-up contributions, how many actually have an extra $6,500 laying around? The Venn diagram overlap of “never prioritized saving before” and “has $26,000 to invest in a form of delayed gratification” is probably vanishingly slim.
Finally, how much good will additional contributions do for someone so late in their earning/investing life? We in the FIRE community know the tremendous power of compounding returns; the gains over just a few years, or even a decade, will pale in comparison. Better late than never, I suppose, but in many situations this will probably be a case of “too little, too late.”
When thinking about the case of people who utilize catch-up contributions, I initially compared it to expediting shipment of late birthday cards. The employee in question procrastinated when it came to retirement contributions, waited too late to start building his or her nest egg, and now needs to expedite the process.
But then I had another thought: is the express mail option the cause of the problem itself?
A Case of Perverse Incentives
Here’s an interesting fact: I have never received a birthday card from my procrastinating relative that arrived after my birthday. In other words, they were always late to send the card, but never too late to miss the ceremonious event itself. This means that they have always relied on the fact that they could send the card express, whenever necessary. Taking it a step further, I can deduce that, if expedited shipping did not exist, they would place the card in the mail one or two days earlier so that it would arrive on time.
Now let’s consider the catch-up contributor. In one scenario, they delay contributing to their retirement accounts for understandable reasons: paying off student debt, raising a family, paying for kids’ college, etc… But maybe, just maybe, they delayed their 401k contributions because they knew they could make up for it with higher contributions after age 50. Why put that extra cash into my 401k when I could use it to make payments on my new Model 3? I can always start contributing next year!
Is it possible that catch-up contributions disincentivize employees from saving earlier in their careers?
Obviously, this is all hypothetical, and probably doesn’t deserve as much treatment as I gave it. But it’s an interesting thought, that a well-intentioned benefit could be causing the problem that it was designed to solve.
Thanks for sitting in on Thought-Experiment Tuesday. (Shit, I should have published this on Thursday, for the better alliteration.)
What do you think? Are catch-up contributions fomenting bad behaviors in would-be investors? Or am I just thinking too much about this? Does anyone mail you birthday cards? Let me know in the comments.