Here’s the thing about a 401k plan…if your employer is contributing a matching percentage you’re a fool not to participate.
Why do I say that?
- Match money. A common match is 50% up to 6% of your pay. In other words, for every dollar(up to 6% of your pay) you contribute to your 401k plan your employer puts in 50 cents.
- Less than you think comes out of your check. That dollar you put in is pretax. Meaning that your paycheck won’t go down the full dollar. For example, if you’re in the 25% tax bracket your paycheck is only reduced 75 cents for every dollar you contribute.
- Unbeatable return. So let’s sum up where we are so far. You contributed $1 out of your pay (but only reduced your paycheck by $.75) and your employer added $.50 match to your account. You took a total of $.75 out of your paycheck and instantly have $1.50 in your 401k account. That’s a 100% instant growth!! You can’t get that deal anywhere else.
- Long-term tax deferral. You don’t pay tax on this money until you retire. Can it get better than a 100% instant return? Maybe. See, that $1.50 will grow in your 401k account without being taxed each year. If it grows 10% the first year, you’ll have $1.65 in your account but won’t have to pull any out to pay tax on that earnings. So your $1.65 will grow another 10% the next year to $1.82. All from the $.75 you put in two years earlier. Do you understand how the tax savings help the account grow bigger faster?
- It’s your money. Take it with you when you leave your current employer. Some people don’t understand that your 401k is not in the employer’s account. It’s a third party account that you can take with you when you leave. Roll it into your next employer’s 401k plan or roll it into your own IRA account.
What else are you doing to save for retirement? Don’t depend on social security!
I’m not a financial advisor, so I can’t tell you what to do in your specific situation. But here’s what I’d do…skip some dinners out, hold off on the new car, wear those shoes one more season, borrow if you must—get your full match!!
While I can’t give specific personal financial advice, I’d love to answer general questions about 401k plans you have. Post them below.
Solid advice Nate.
Cool, we did not know a lot of that about a 401k. Do you have to set up your own or does the employer automatically have one set up for you if they offer that benefit?
Hey Ginny. A 401k goes through your employer. There is typically a waiting period before you can sign up. There are a couple other ways to save for retirement that don’t go through an employer…IRA and Roth IRA’s are most common. I use both. I’ll write about them in a future post.