Learn All The Basics About 401ks and Planning For Your Retirement

No matter where you are within your career, you should already be planning for retirement. The sooner you start saving money, the earlier you can retire! One of the best ways to save your money for the later years of life is by putting it into a 401K savings account. YOu may have heard about 401Ks, but what are they really, and how do you get one? We will answer all of your 401K questions and more! Then, you will be fully prepared to start saving and working toward the retirement you deserve.

Note: The content of this article is for informational purposes only and is not a substitute for professional advice. Always consult with a qualified professional for advice tailored to your individual circumstances.

What is a 401k Savings Account?

A 401K is a savings plan that your employer may offer. Companies often offer this type of plan as part of your benefits package. You can enroll in your employer-sponsored savings account if you want or decide not to participate. The choice is yours! If you enroll, you can choose how much money will go directly from your paycheck into the savings account. Not all employers offer 401K accounts, but if your company does, it is a fantastic benefit you should take advantage of. It can help you save money in a smart and easy way.

Company Match

Many companies will match part of your 401 (k) contribution. This is a huge perk of signing up for a company 401 (k) and something all employees should recognize as a benefit of the job. So, how does the company match work? For example, if your company offers a 100% match, for every $100 you put into your 401 (k), they will also contribute $100. That is almost like getting free money for your retirement! All employees should take advantage of this, especially if the company offers a high match percentage. 

How Much to Save

When you sign up for your 401K account, you choose a set dollar amount or a percentage of your paycheck to be automatically directed into your savings account. This money is taken directly from your paycheck and deposited into the 401K. You don’t have to do anything! This makes saving for your retirement extremely simple. You can typically adjust your savings amount anytime you’d like, adding more money to your 401K or lowering your contribution. There is usually no minimum you can contribute, so even putting the smallest amount into your savings is a good idea.

Tax Savings

Most traditional 401K accounts are not subject to immediate taxation. When you sign up for the account, you choose how much you want to contribute. This amount is not taxed but goes directly into your account. The account’s growth is also protected from income taxes and capital gains taxes. While you will receive these immediate tax benefits, remember that the money will be taxed when you withdraw later, after retirement.

Where Does the Money Go?

The money in your 401K is invested in a variety of funds. While you will not personally manage these investments on a day-to-day basis, you do get to say how you would like the money to be invested. From mutual funds to exchange trade funds, the money in your 401K will be put to work and grow! It is not just sitting in a savings account, but it is out there working for you. Large financial firms will be working hard to manage your money and keep the account profitable.

Investing Your 401K

When you sign up for your 401K, you will likely be presented with your investment options. Consider your risk tolerance, time horizon, and retirement goals as you decide how to allocate your money. If you’re younger and have a longer time before retirement, you might opt for a higher percentage of stocks, which offer higher growth potential but come with more risk. As you approach retirement, you may want to consider shifting toward more conservative investments like bonds or stable-value funds, which can help protect your savings. Diversifying your 401K across different asset classes can also help balance risk and reward.

Two Types of 401K

There are actually two different types of 401K retirement savings plans. One is a traditional 401K, and the other is called a Roth 401K. The difference comes down to when you will pay taxes on your account. While a 401K does offer tax-sheltered growth, and you do not have to pay taxes while it is active, you will eventually need to give the government its cut. But let’s look at the differences between the two accounts so you can understand what your company is offering.

Traditional 401K

A traditional 401K plan transfers money directly from your paycheck before income taxes are calculated. This means contributing to your 401K will lower your taxable income immediately. You will pay less in annual income tax, which will not only immediately put more money into each paycheck, but it may also keep you in a lower tax bracket, giving you a lower tax percentage. When you take money out of your 401K once you retire, you will pay income tax on those withdrawals.

Roth 401K

When you sign up for a Roth 401K, your contributions are made after you have paid income tax. There is no immediate tax break; however, you will pay no taxes on qualified distributions after the age of 59 ½. It would be great if you believed you would be in a higher tax bracket once you retired. Your money will be taxed at a lower rate now, and then, when you retire, you can take the money out tax-free! 

401K Contributions

Consider a few things when deciding how much to contribute to your 401K account. Think about how much you can afford to contribute. You can adjust this amount anytime. Try to get the most out of your employer as well. For example, if your company will match 100% of your contributions up to $100 per paycheck, try to also contribute $100. This way, you will reach the full amount of “free money” your employer offers. 

IRS Limitations

The IRS does have limitations on how much you can put into your 401K each year. 

Currently, you can contribute $23,000 annually to your 401K plan. If you are over the age of 50, you can contribute an additional $7,500 in catch-up contributions. These limitations were implemented to help create fairness, ensuring that higher earners do not benefit more from 401K savings than those with lower salaries. 

Combined Limitations

If your employer offers a company match on your 401K contributions, there is also a combined limit that you should consider. The current employer’s combined employee contribution limit is $69,000. Your employer’s contribution plus your pre-tax contribution cannot exceed this amount. Make sure you check these numbers often and reassess your contribution amount, as they do change annually. 

Is a 401K A Good Retirement Fund?

A 401K can be a valuable tool for building your retirement savings, offering tax advantages, and taking advantage of employer contributions. It will allow you to invest in a range of assets, helping your money grow over time. It is very easy to consistently contribute to your 401 (k), making saving money effortless. Always consider your personal financial situation and speak with a professional financial advisor if you are unsure about what to contribute. It is never too early to start saving for retirement! 

Multiple Accounts

If you switch jobs or join a new company, your 401K from your old company will not be lost. While you may no longer be contributing to your old 401K, the money in the account will continue to grow steadily and be managed by the same company. However, your new job may offer a new 401K that you will want to invest in. You can have multiple 401K accounts at once. You may also want to consider rolling over your old 401K into the new employees’ plan to keep things more simple. This is an option that will make managing your savings accounts a little bit easier.