Nearly 60 percent of American employers offer a 401(k), making these financial instruments one of the most popular tools to help people save for their retirement. That’s why it’s important to understand how 401(k) plans work as well as the benefits and advantages you could see from owning one.
Talking to a financial planner could help answer any questions you might have about 401(k) plans that go beyond the basics covered in this article. Sign up for one of our free online retirement planning events today so you can learn more about these plans and meet a someone who can get you started.
Benefits and advantages of a 401(k) plan
In case you were wondering, 401(k) plans get their name from a section in the IRS tax code that lets businesses create a tax deferred, defined contribution retirement plan for their employees. The employee’s contribution to these plans is often automatically deducted from his or her paychecks –which makes it easy to save money – and the money usually isn’t taxed until they retire.
Here are some features that make these plans unique:
- Matching contributions – More than half, 51 percent, of employers that offer a 401(k) plan will match their employees’ contributions up to a certain percentage. This gives the employee an opportunity to double the amount of money they save for their retirement and the employer an attractive benefit they can offer to prospective employees.
- High contribution limits – Under the current rules, employees can contribute up to $19,500 to their 401(k) plan each year if they are under 50 and up to $26,000 a year if they are 50 or older. Employer matches can bring this annual contribution limit up to $58,000 or 100 percent of the employee’s salary. Compare this to the annual contribution limits for IRAs, which are $6,000 per year for people who are under 50 and $6,500 for those who are 50 or older.
- Rollover – While you could face stiff penalties for withdrawing the money from a 401(k) plan before you retire, you can almost seamlessly transfer the money from a 401(k) plan to another retirement account using its rollover option.
One advantage of a 401(k) rollover is that it gives you a chance to transfer some money into a post-tax retirement plan like a Roth IRA. This strategy lets you pay income taxes on the money when you deposit it rather than when you retire and may be on a fixed income. Rollovers also let you take control of your retirement savings if you switch employers and no longer want your money invested in that company’s stock or its financial planners to manage your money. - Loans – Though it’s frowned upon for a variety of reasons, people can borrow money from the balance of their 401(k) plan and pay it back over time without paying early withdrawal fees and penalties. This could help people pay medical bills or any other unforeseen expenses they face.
Sign up for one of our free online retirement planning events today so you can learn more about 401(k) plans and meet a certified financial planner who can get you off on the right foot.