In your golden years, you don’t want to be short of cash, and with rising inflation, it can be harder than ever to know exactly how much you need to save to live comfortably.
When it comes to retirement saving accounts, one of the most popular options is a 401(k), and here, you will be walked through what you need to consider when deciding if it is the right option for you.
What is a 401(k) Account?
A 401(k) account is a kind of retirement savings account that is provided by employers in the United States. It enables employees to save part of their earnings before taxes are deducted and, as such, financial planners will always recommend that employees use this kind of account to its full limit. It’s worth noting that not every 401(k) plan is the same, so here are some things to consider when investing in one.
Contribution Limits
The Inland Revenue Service, or IRS, sets limits on 401(k) contributions. So, one thing to look into is what these are, and how you can benefit from them to get the most into your account.
In 2024, the limit on 401(k) contributions is set at $23,000 for those who are under the age of 50. If you are 50 or older, you are allowed to invest an additional $7,000. If you have more money than this to invest in a retirement savings account, it is worth looking at other options alongside a 401(k).
Tax Benefits
As highlighted before, typical 401(k) contributions are made pre-tax, which reduces the taxable income that you have. However, there will likely be taxes on withdrawals from a typical 401(k) during retirement. If you want to minimize this tax, it is worth looking into a Roth 401(k) if you can get it, as it allows you to make tax-free withdrawals when you retire.
The best option to choose between the two is to look at your tax bracket now (and the predicted one in retirement) to assess which account type will work best.
Withdrawal Rules
With a 401(k), if you try to withdraw funds before you are aged 59 and a half, this will usually incur a charge. Unless you qualify for exceptions, this is typically 10% plus income taxes. For this reason alone, many people have an emergency fund set aside from a 401(k) account, which helps them avoid dipping into it prematurely. This will help you avoid penalties and ensure that you only dip into your 401(k) when needed.
Your Financial Goals
Lastly, you need to consider what your financial goals are for retirement. Will you get enough set aside with a 401(k) alone, or are you going to need an additional account to top up the amount you want to save and live on?
Many people choose to diversify their retirement portfolios, which means it can be worth talking to a wealth management firm to assess what may be the best option for you, and to look at options such as stocks, bonds, and other accounts, such as an HSA.