How to Turbocharge Your 401k
The 401k was never meant to be America's pension plan. It was the brainchild of an obscure tax consultant. He dreamed the idea up one day in 1978 while reading the tax code.
From those humble beginnings the 401k has exploded into prominence. Today it is the primary wealth creating retirement tool for most workers. It has largely supplanted pensions.
Yet not everyone is convinced this is for the best. One such skeptic is the father of the 401k himself, Ted Benna. He believes the process is too complicated.
We believe that the 401k is a powerfully useful tool. Yet many of us sabotage ourselves by mismanaging our retirement plans.
So today, let's talk about a few clever ways to turbocharge your 401k.
Playing The Match Game
Anyone who declines to accept the employer match is doing himself a major financial disservice. This is free money, plain and simple.
Declining to take advantage of an employer match is really no different than spotting a $100 bill on the ground -- and walking right over it.
If you can't convince yourself to accept free money, how do you expect to successfully grow wealth over the long term?
Time to Max Out
Savvy wealth builders know that maxing out your retirement contribution is a sound strategy. This year, the IRS allows individuals to contribute up to $18,000 to a 401k. That's an increase of $500 over 2014. The IRS also now allows a catch-up contribution of $6,000 if you're over 50.
Of course, not everyone can reach this figure. That doesn't mean you shouldn't be trying to exceed your previous contribution levels with everything you've got.
You shouldn't be satisfied with five-percent. Ten-percent is a more reasonable figure. And we'd suggest you go even higher.
If you're in your 40s or 50s and you're behind the savings eight ball? Then 15-20 percent is your range. The longer you wait to build wealth, the more aggressive you must be.
If you find yourself having difficulty upping your percentages, consider taking any future salary increases and immediately directing them into your 401k.
Keep a Close Eye on Fees
Many otherwise savvy people haven't the foggiest notion about 401k fees. If you don't read the fine print, it's easy to overlook how quickly fees accumulate.
That means it's a good idea to start going over your 401k statements with a fine-tooth comb. Educate yourself about the plan's fee structure. Doing so will prevent you from wasting money on needless fees. This is money that should be working for you, rather than lining your plan administrator's pockets.
Consider Going Roth
If you have the option to take a Roth 401k, explore the possibility. In some cases the payoff is significant. Any future earnings growth from salary directed into in your Roth 401k is tax free. Withdrawals after you retire are also untaxed.
Sounds almost too good to be true, right? That's because there's a catch. You don't get a tax break when you make your deductions. That means you're foregoing today's standard 401k tax break for a different tax break further down the road.
If you're a high-income saver, that's a trade-off you want to make. You'll save money by paying taxes now while avoiding a bigger tax bill in the future. Young wealth builders are also advised to consider a Roth. A longer timeline lends itself to major potential growth.
Yet if you're strapped for cash or don't expect to have a high-income, a traditional 401k is probably the better choice.
The Bank of No Resort
Many plans allow you to take loans or early withdrawals from your 401k. This is almost always a terrible idea. Too many people fail to repay their loans, and compromise their retirement savings. These loans frequently must be paid back immediately in full if you switch jobs.
Hardship withdrawals are difficult to get -- and come with stiff tax sanctions. Avoid them unless there is no other option.
Likewise, cashing out a 401k too soon is one of the most common blunders made. If you're under 60, you may have to pay federal and state taxes -- and a 10-percent early withdrawal fee.
That kind of tax bite can seriously erode your nest egg. There are usually better options than liquidation, including a Roth or traditional IRA rollover.
You can also choose to leave your 401k in place. Once you leave your employer, you won't be able to make additional contributions. Yet you can still reap the benefits of tax-deferred growth. Additionally, you can usually roll your old 401k into a new plan offered by a new employer.
Take Control of Your Destiny
Many of us make our initial 401k choices then go immediately on autopilot. That's a good way to miss out on significant wealth building opportunities.
Review your asset allocation frequently. Make sure that you aren't being victimized by useless, money-burning fees. Stay abreast of the latest developments and investment options.
Remember -- a passive approach is a sub-optimal approach. By taking control of your most important financial tools and making informed decisions, you'll be in great position to prosper.