Why Your 401(k) Balance Can Be Misleading When Retirement Planning

Checking your 401(k) balance feels like checking your retirement score. As the number goes up, you feel better about yourself and your retirement plan. However, that balance is a gross figure, and the amount you can actually spend in retirement is smaller and less flexible than your statement suggests.

Here are four reasons your 401(k) balance is misleading when it comes to a successful retirement.

Your balance is a pre-tax number, not spendable cash

If your money is in a traditional 401(k), you haven't paid taxes on it yet. Every dollar you withdraw is added to your taxable income, and the IRS collects at your rate when the money comes out.

The math is sobering when you take a hard look at it. A $500,000 balance withdrawn at an effective 20% tax rate is really about $400,000 in spending power. At 30%, it's $350,000. That's a massive difference in dollars, and it's something many Americans don't take into account when building their retirement portfolios.

This hits hardest if you land in a higher bracket in retirement than you expected. Decades of compounding, a pension, or a working spouse can all push your retirement income above your mid-career earnings, and 2026 federal rates run from 10% to 37% on ordinary income. Suddenly, you could end up paying more in taxes than you did during your highest-earning years at your job.

Required minimum distributions can force a tax problem

You don't get to defer that tax bill forever. The IRS requires withdrawals from traditional retirement accounts starting at age 73, whether you need the money that year or not.

The required amount grows as you age. At 73, the divisor is 26.5, or about 3.77% of your balance. By 80, it drops to 20.2, pushing the withdrawal to roughly 4.95%. On a $2 million traditional balance at 80, that's nearly $99,000 of forced taxable income in one year.

That forced income sets off a chain reaction:

• Higher tax bracket: RMDs add to everything else you earn.
• Medicare surcharges: In 2026, exceeding $109,000 in income as a single filer or $218,000 when filing jointly triggers IRMAA, with Part B premiums potentially rising from the standard $202.90 to as much as $689.90 per month. Go even $1 over the threshold, and you owe the full surcharge.
• Taxable Social Security: Combined income above $25,000 for single filers or $32,000 for joint filers makes 50% of your benefits taxable; above $34,000 for single filers or $44,000 for joint filers makes 85% of your benefits taxable.

A large, undiversified traditional balance that felt like security at 65 can become a tax problem at 73 that you can't opt out of.

Most savers keep every dollar in a single tax bucket

There are other ways to build your retirement portfolio beyond a traditional 401(k), but most Americans never use them. Roth 401(k) accounts have no required minimum distributions while you're alive, and qualified withdrawals are tax-free. The same goes for Roth IRA accounts. 

While the contribution limits are lower for Roth IRAs than for 401(k)s, you can contribute post-tax money and watch it grow, which will save you from headaches later on.

Yet 86% of plans now offer a Roth option, and only 18% of participants use it, according to Vanguard. Nearly everyone is filling one 401(k) bucket and nothing else.

That matters because retirees with traditional, Roth, and taxable brokerage money get to choose which account funds each year.

Low-income year? Pull from the traditional account at cheap rates.

Near an IRMAA cliff? Tap the Roth, which adds nothing to taxable income. A brokerage account has its own perk: Long-term capital gains are taxed at 0% in 2026 up to $49,450 in taxable income for single filers, or $98,900 for joint filers.

A saver with only a traditional 401(k) has none of those options. Every dollar of spending is ordinary income, taxed at its full rate and counted toward every surcharge and threshold above.

A big number can still give you a false sense of security

Comparing your balance to national averages feels like a report card, but the averages themselves are misleading. Fidelity's latest data puts the average 401(k) balance at $141,000, while Vanguard reports an average of $167,970 against a median of just $44,115.

When the average is nearly four times the median, a handful of very large accounts are doing the heavy lifting. Beating the average tells you little.

Even a genuinely large balance answers the wrong question. What matters is the after-tax income your savings can generate against what you actually spend. 

A retiree with $800,000 entirely in a traditional 401(k) may have less real spending power than a neighbor with $650,000 split across traditional, Roth, and brokerage accounts. The statement says the first retiree is richer, but the tax returns say otherwise.

Bottom line

The fix is tax diversification, and it works best when you start early. Directing some contributions to a Roth 401(k) or Roth IRA, funding a taxable brokerage account, or converting traditional dollars to Roth in lower-income years all give your future self more control over the eventual tax bill than optimizing within a single account ever could.

Waiting until 73 to start drawing down your retirement accounts is a surprising retirement mistake that far too many Americans make every year. Beyond bracket creep and Medicare surcharges, missing a required distribution triggers a 25% penalty on the amount you failed to withdraw, reduced to 10% if corrected within two years.

That's why if you're looking for a stress-free retirement, you must have a well-planned strategy in place to account for your RMDs and their impact on your tax liability.

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