In a perfect world, your retirement planning strategy would resemble a three-legged stool, with one leg being Social Security, another being the benefits your employer provides and the final leg the retirement savings that you accumulate on your own. But with the future of Social Security unresolved, and more and more self-employed individuals, focusing on the retirement income you accrue on your own is becoming more and more important.
Why do you need a 401(k)?
Whether you work for a company or are self-employed, you can contribute to a 401(k), which is just one of the advantages it offers investors. Another plus to contributing to a 401(k) plan is the money you invest in it is not taxed until you withdraw it later in retirement. This reduction of your pre-tax income provides tax savings to you and your family now.
A 401(k) gives you a variety of investment options to choose from, including stocks, bonds and money market funds. You can allocate how much you wish to invest in each category, and you can vary your risk throughout your lifetime. Typically younger investors may be open to more risky investments, while people closer to retirement age may want to shift to more secure options.
Many employers offer to match your contributions to your 401(k). Finally, you also have the option of taking a loan out against your plan, in case of emergency. If you use this option, the funds must be paid back, with interest, within five years. If you leave the company before you have fully paid back the loan, the money is due immediately or you face financial penalties.
When to start saving
The sooner you begin to contribute to a 401(k) plan, the faster your retirement funds will accumulate. As an example, if you contributed $5,000 a year between the ages of 25 and 65, you could end up with more than $1.3 million dollars for your retirement.
Unfortunately, many Americans are not taking advantage of the option to save for their retirement. Researchers for the U.S. Census Bureau recently determined that only one third of Americans are contributing to their workplace 401(k) plan. One of the problems is only about 14 percent of workplaces offer this investment option to their employees. The good news is that many larger companies offer the plans and the Census study found that about 79 percent of Americans do work for a company that offers a 401(k) plan.