Overview of the 401(k)
However you plan on spending your retirement is up to you, yet it will likely be the most expensive thing you will have to pay for. And for this you cannot receive a loan, entailing that you will have to save for it. An employer sponsored retirement account simply gives the employee a chance to commit a percentage of their pre-taxed paycheck to a retirement account.
History of the 401(k)
Despite the widespread popularity of the 401(k), 401(k) retirement plans were created essentially by accident. In 1978, Congress passed the Revenue Act of 1978, including provision, Section 401(k). This section gave employees a tax-free method to defer compensation from bonuses or stock options. Ted Benna, the founding father of the 401(k), found an opportunity to build a more tax-friendly retirement account. In 1981, the IRS issued rules, giving employees the chance to contribute to their 401(k) plans through salary deductions. Companies across the U.S. found this retirement plan much more appealing than pensions because it was much more predictable to fund, and it was less expensive to do so. Employees were drawn to it because it was advertised as an advanced savings vehicle that would put them in an optimal position to retire. In fact, 401(k) plans across the United States roughly account for $7.3 trillion in assets as of March 31, 2022. To spread awareness, the Plan Sponsor Council of America, created National 401(k) Day. The Friday following Labor Day was appointed, so employees can “start the week with Labor Day and end the week with retirement.”1
The 4-1-1 About Your 401(k)
If your employer offers a 401(k) and you meet the eligibility requirements, you can start your 401(k) and begin making contributions from your paycheck. Before you start, you may want to make some considerations. First, what type of 401(k) are going to contribute to: a Traditional or a Roth 401(k)? Traditional 401(k): employee contributions to a 401(k) plan are tax deferred. You pay the taxes on contributions and earnings when the savings are withdrawn. Roth 401(k): similar to the traditional plan, however, contributions by employees are not tax-deferred but are made with after-tax dollars. Income made on the account from interest, dividends, or capital gains, is tax-free. Choosing either a Traditional or Roth 401(k) heavily resides on the tax bracket you are a part of and your income.
Next, you should review how much you want to save in your 401(k). However, much you decide is completely up to you, but remember, there is a maximum contribution limit set by the IRS every year. Also, it is a very good idea to meet your employer’s match… it is free money you do not want to leave on the table! As you determine this information, you will then choose how much you would like deducted; this will come straight from your paycheck.
Finally, you will want to consider what you are going to do with the money you save. A 401(k) plan will offer a range of investments, allowing you to choose what you want to invest in. Whether you are conservative or aggressive with your investments (also known as risk tolerance), choose an investment that is compatible with you and your goals.
5 Tips to Maximize Potential Out of Your 401(k)
- Begin Contributions Early
- Maximize your savings by contributing as an early as possible
- Utilize Matching Contributions
- Employers may match contributions up to a certain percent of your paycheck
- Essentially your employer is offering you “free” money, so take advantage of it
- Avoid Early Withdrawals
- Withdrawals result in penalty fees and additional tax payments which you avoided when you began your 401(k)
- Check in Regularly
- Make sure your 401(k) is taking the course you want it to take
- Make adjustments as needed
- Stay Invested
- Fight the urge to liquidate
Ways to Celebrate 401(k) Day
Try using a retirement calculator. Calculate how much you will need to save for retirement, set your savings goals, and when you can expect to retire.
Review your 401(k). Take today to check on your assets. Make sure your retirement plan is turning out how you expected.
Increase your retirement plan contributions, especially if you have the funds. Receiving a bonus or a raise is a great time to increase your contributions.
Happy 401(k) Day, and best wishes for a wealthy and healthy retirement!
Beacon Pointe Advisors are investment advisers registered with the Securities and Exchange Commission (“SEC”). Provided content is for overview and informational purposes only and is not intended and should not be relied upon as individualized tax, legal, fiduciary or investment advice. Investing involves risk including potential loss of principal.
Important Disclosure: This content is for informational purposes only. Opinions expressed herein are subject to change without notice. Beacon Pointe has exercised all reasonable professional care in preparing this information. Some information may have been obtained from third-party sources we believe to be reliable; however, Beacon Pointe has not independently verified, or attested to, the accuracy or authenticity of the information. Nothing contained herein should be construed or relied upon as investment, legal or tax advice. Only private legal counsel may recommend the application of this general information to any particular situation or prepare an instrument chosen to implement the design discussed herein. An investor should consult with their financial professional before making any investment decisions.
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