Saving for Retirement with 401K Plans

While retirement may have been the responsibility of employers in the past, to retire today hinges on your own foresight and planning. Regardless of how far into the future your retirement may be, addressing your retirement goals in the present is crucial. Now is when you have the most tools and opportunities available to build out your retirement the way you envision it. Consider the strategies presented by Marianela Collado, CPA/PFS, CFP® in the following article featured in El Nuevo Herald’s Personal Finance Section:

Saving for Retirement with 401K Plans

This article was featured in the Personal Finance section of El Nuevo Herald on Sunday, April 10, 2016. Please find the link to the published article at the bottom of this post.

When most of us think about retirement, the date seems so far into the future that we rarely think about how our monthly living expenses will be covered. There used to be a time when many employers provided a pension, which was a guaranteed payment based on the employees’ earnings. Most people felt that with a pension and social security they would be just fine during retirement. Those days of employer provided pensions are long behind us and it is hard to know for sure how much will be available from social security benefits. This is why we need to take full responsibility for funding our own retirement plan.

There are many ways to prepare for retirement during your working years. An employer provided retirement plan is a great start. An example of an employer provided plan includes 401K plans.

If your employer provides a retirement plan such as a 401K, it is advisable to take advantage of the plan. The maximum that can be contributed to these employer provided plans is $18,000 (or $24,000 for those who are at least 50 years old).

Most of these employer plans provide a “matching” program where the employer will make a contribution equal to the amount the employee elects to contribute into their 401K plan (up to a certain amount). Every company will be different, but a common matching program is one where the company will deposit an amount equal to 100% of the first 6% the employee contributes. This is FREE money, so everyone should contribute at least the amount the employer will be matching.

Here’s how the matching works: An employee earning a salary of $50,000 per year works for a company that matches 100% of the first 6% the employee elects to contribute to the 401K plan.

Scenario 1 – The employee elects to contribute 10% of his salary ($5,000 per year or $96 per week), so the company will add an additional $3,000 to the employee’s 401K account for the year (this is 100% of the first 6% the employee elected to contribute.)

Scenario 2 – If this same employee elected to contribute only 2% of his salary ($1,000 per year or $19 per week), the employer will just match the $1,000. In this case, the employee will lose out on the opportunity to get an additional $2,000, which the employer would have added to their retirement account. The $2,000 represents a lost benefit!

Most companies now provide a Traditional and a Roth 401K plan. The difference is that a Traditional 401K is funded with “pre-tax” dollars. In other words, the wages an employee elects to contribute are not included in taxable wages at the end of the year on their Form W-2. The funds grow tax deferred and will be fully taxable upon distribution at retirement. This might make sense if you are in a high tax bracket and expect to be in a lower tax bracket during retirement.

The Roth 401K, on the other hand, is funded with “post-tax” dollars. This means that the employee’s taxable wages are not reduced by the amount they elect to contribute, but the account grows tax free and the distributions are not taxable during retirement.

If you work for a company that does not provide a retirement plan, you can still save for retirement using other vehicles. This includes “Individual Retirement Accounts” or “IRAs”. In order to plan for retirement, these plans should be considered.

Link to article on El Nuevo Herald:

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