No matter your age, it’s never too early to start preparing for retirement. If you have a 401(k), you’re already on the right track in committing to a retirement plan that will ensure you’re financially stable enough to live comfortably in your retirement years. Your 401(k) is a useful financial tool offered through your employer that helps you grow your retirement savings throughout your working years.
By understanding how your 401(k) works and the best ways to ensure it continues to grow, you can develop an aggressive retirement savings plan that allows you to reach ambitious financial goals.
When you maximize your 401(k) retirement plan’s performance, you may feel more comfortable choosing a younger retirement age because you’ll have more confidence in your financial stability and future plans. Review these strategies for maximizing your 401(k) so you can transition into retirement with ease.
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Avoid the Default Rate
When your employer offers you a 401(k) plan as an employee benefit, there’s a default rate associated with plan participation. This default rate is the percentage of your paycheck that’s automatically contributed to the 401(k) if you don’t opt to change it. In most cases, the default rate is 3%, since this is generally the most manageable contribution for most employees.
The rate that you decide to contribute to your 401(k) depends on your personal budget, income, and other retirement plans you’re participating in. However, before you simply sign away on the default rate for your 401(k), do some calculations and see if you’re able to contribute more. Using your monthly budget and paycheck, decide how much you can contribute to your 401(k) while remaining comfortable.
If you receive a promotion or a raise, instead of increasing your expenses and budget, increase your 401(k) contribution rate. The more you contribute from your paycheck, the faster your 401(k) balance grows. Once you get used to this percentage being taken out of your paycheck, you may not even notice it while it silently grows your retirement savings.
Get a 401(k) Match
To encourage their employees to participate in the 401(k) program, many employers offer a match of their employees’ contributions. If you’re lucky enough to work for an employer that offers this 401(k) contribution match, it’s important to take advantage of it.
When an employer matches your contributions, it’s basically free money being added to your account and a great way to watch your 401(k) grow quickly. Most employers match a percentage of your contributions. For example, your employer may match up to 3% of your salary. Some employers only offer 50 cents or less per every dollar you contribute while others match dollar-for-dollar.
Analyze the contribution match your employer offers. If it’s based on the contributions you make to your 401(k), be sure you’re contributing enough to maximize the match. By taking full advantage of your employer’s matching contribution, you’ll ensure your 401(k) is growing as quickly as possible.
Look Out for Fees
If you’re strapped for cash or switching jobs, it’s tempting to scratch that 401(k), take out the money, and spend it. However, the penalty fees associated with cashing out your 401(k) retirement plan early are expensive.
If you pull out your cash before you reach 59.5 years of age, you’ll be hit with a 10% early withdrawal fee that you’ll need to send directly to the Internal Revenue Service (IRS). You’re also responsible for paying income tax on the money you withdrew. These fees greatly hinder the growth of your retirement account and make it tough to build your 401(k) up again.
If you’re starting a new job, roll your 401(k) over into your new employer’s account. Keep an emergency fund ready at all times so you won’t need to touch your 401(k) early, even if an unexpected expense arises.
One of the benefits of investing in a 401(k) plan is that you can defer the income tax you owe on the money you save up to a certain maximum contribution limit. If you’re strategic about the amount you contribute to your account, you can avoid these taxes, which helps maximize your 401(k) growth.
In 2020, you can contribute a maximum of $19,500 to your 401(k) account to avoid income taxes. If you’re over the age of 50, you can avoid taxes while contributing a maximum of $26,000 to your 401(k) throughout the year.
Utilize Automatic Contributions
It can be tough to begin saving for retirement, especially if you’re used to bringing home specific income each month. To ensure you’re regularly contributing to your 401(k), ask your employer to set up automatic contributions. You choose the percentage of your paycheck you want to contribute to your 401(k) every month and it’s automatically taken out and placed in your retirement account.
Automatic contributions make it easy to ensure you’re contributing enough to take advantage of employer contribution matching and tax breaks. When the money is automatically invested and you don’t even see it, you don’t miss it and won’t even include it in your monthly budget.
Choose a Roth 401(k)
You may have heard about a traditional IRA and a Roth IRA when analyzing retirement savings plan options. While less common, you may also have a choice between a regular 401(k) and Roth 401(k). If your employer offers a Roth 401(k), consider contributing to this retirement savings plan if you think you’ll be in a higher tax bracket when you retire.
Unlike a regular 401(k), a Roth 401(k) is funded with after-tax dollars. Your taxes are taken out before the money is placed in the account. Therefore, when you retire and begin taking withdrawals from your 401(k), you don’t owe taxes on what you take out.
A 401(k) is a great way to get a jumpstart on planning for retirement. By taking advantage of employer matching, tax breaks, and automatic contributions, you will maximize your 401(k) growth and can look forward to comfortable retirement years.
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