Making the Most of Your 401(k) Plan

Key Benefits of a 401(k) Plan

A traditional 401(k) is a simple, convenient and flexible retirement planning vehicle that can help you start saving early, often and automatically. It offers a number of important benefits to help you save for retirement:

• Pre-tax contributions: Deductions from your salary are made from your gross pay, prior to federal income taxation, which may lower your taxable income.

 

• Tax-deferred growth: Your investments grow without being taxed on their potential earnings each year you remain invested.

 

• Professionally managed investment options: You generally have access to a number of investment options that are managed by professional money managers.

 

• Diversification: When you invest in multiple funds and securities, you spread your assets among different types of investments, which helps reduce volatility.

 

• Portability: If you switch employers, you typically have the ability to transfer your 401(k) assets to other retirement plans.

 

• Discretionary matching contributions: Many employers offer a matching contribution within their 401(k) plans to encourage employees to invest for their future.

 

• Convenient payroll deductions: Once you’ve enrolled in the plan and selected a contribution level, your contributions are automatically deducted each pay period. This means you don’t have to worry about writing checks, remembering to make a deposit or spending money you intended to save. While you may need to fill out a form to enroll in your company’s 401(k) plan, some employers automatically enroll their employees into the plan once certain criteria are met, making the process even more convenient. A commitment to making regular, ongoing investments can have a significant impact on the total amount you have saved for retirement.

 

Strategies to Consider for Optimizing Your 401(k) Savings

Maximize Your Savings Rate

As noted above, some new employees are automatically enrolled in their company’s 401(k) plan, commonly at a rate of 3 percent of their pre-tax paycheck. In many cases, this will not be enough for an individual to achieve the lifestyle they are hoping for in retirement. If you can, consider increasing your savings rate at regular intervals and contributing at least the minimum amount that qualifies you for an employer match, if one is offered.

To that end, take advantage of the employer match. An employer match—or money that the employer contributes to your 401(k) for every dollar you contribute, up to a specified amount—is one of the easiest ways to boost your 401(k) balance. Keep in mind that, depending on your employer’s policies, you may not become eligible to keep the matching dollars until you have met the vesting requirements, which generally entails working at the company for a certain amount of time.

If You Can, Try to Avoid Cashing Out

Most people will switch employers several times over the course of their careers. When you change jobs, you may be given the option of cashing out some or all of your savings. However, the amount you withdraw is typically subject to a 20 percent federal income tax withholding, as well as possible state income tax and a 10 percent penalty if you withdraw before age 59½. Moreover, money in a 401(k) is money that you’ve set aside and invested for retirement. Withdrawing it early may detract from your long-term savings efforts.

Diversify Your Investments

A 401(k) generally allows you to choose from a range of investment options. Often this includes several mutual funds that vary in terms of the types of stocks and bonds they invest in. When choosing your mix of funds, consider both your risk tolerance and time horizon. You may need to rebalance your portfolio periodically to maintain your target allocation, or to adapt to changing priorities or evolving life circumstances. Generally, people tend to shift their portfolio toward less risky funds as they approach retirement.

Read the Fine Print on Fees

Keep in mind that the investment options in your 401(k) may have different fees. You may want to look for any available low-cost options that align with your risk tolerance.

Saving early, often and automatically can help you chart a path to financial independence, and your 401(k) may play a significant role in your retirement strategy. In addition to helping you understand your 401(k) options and select investments, a Financial Advisor can provide insight into how your 401(k) fits into your overall wealth management and estate planning strategies.