Your Complete Guide to Getting the Most Out of Your 401(k)

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IIf you have a 401(k) at work, it’s a great account to use to save for retirement. A 401(k) is easy to invest because the money can be taken directly from your paycheck. And it also has high contribution limits that allow you to make a tax-efficient investment every year.

If you want to use your 401(k) to build a secure retirement, there are steps you need to take to get the most out of this retirement plan. Here are six.

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1. Understand your employer match rules

If your employer offers matching contributions, you’ll want to claim every dollar of that free money possible in order to get the most out of your 401(k).

An employer match means your employer invests money when you do. There are usually specific rules regarding the amount of your employer’s contribution. For example, the company can match half of the contributions you make up to 6% of your salary or 100% of the contributions up to 4% of your earnings.

The rules vary by company. You’ll want to know exactly what you need to do to get your employer match so you can make the required investments and not leave. any money on the table.

2. Aim to maximize your tax breaks

When you contribute to a 401(k), you get tax relief. This means that the government subsidizes retirement savings and helps you prepare for your future years.

The contribution limits for a 401(k) are generous. In 2022, most people can invest up to $20,500 while workers 50 and older can make an additional catch-up contribution of $6,500 for a total investment of $27,000. Ideally, you’ll want to get as close to these contribution limits as possible so you can get the maximum help from Uncle Sam.

If you can’t contribute the maximum, try to invest as much money as possible to get the most tax relief possible for you. You can work to increase your investments by increasing contributions over time. For example, if you’re contributing 10% of your income now, try investing 11% in your 401(k) in a few months, then 12% soon after. You might find that the small increase doesn’t make much of a difference in your day-to-day life, but it can have a big impact on your nest egg over time.

When you get a raise, you may also want to divert most or all of your raise to your 401(k) to try and get closer to maxing out your contributions. You’re not used to the extra money in your paycheck yet, so you won’t miss it if you use it to get more value out of your 401(k).

3. Choose between a Roth and a traditional 401(k)

If your employer offers the choice between a traditional 401(k) or a Roth, think carefully about which one is best for you.

Traditional 401(k)s provide tax relief in the year you invest. If you put $1,000 into your account, your taxable income will be reduced by that $1,000 contribution and you won’t pay tax on the money. When you reach retirement age, however, withdrawals from your 401(k) are taxed at your regular rate.

Roth 401(k)s do not provide upfront tax relief, but you are allowed to make tax-free withdrawals as a senior. Your tax savings are deferred until later. If you expect your tax rate to be higher as a retiree, a Roth 401(k) is generally the better choice. But if you think you’ll be taxed at a lower rate in retirement, a traditional account may be better.

4. Choose the right combination of investments

You have a choice of what to invest your 401(k) money in. To get the most out of your 401(k), you’ll want to make sure you’re building a diversified portfolio that’s neither too conservative nor too aggressive based on your age and retirement schedule.

Many 401(k) accounts offer target date funds. These allow you to select a chosen retirement date. The fund will invest your money in an asset mix that is appropriate for you given your retirement timeline. However, target date funds often come with high fees and may not fully reflect your own risk tolerance.

You can also choose which funds to invest your 401(k) money in from the pool of different investments offered. This may be a better approach if you don’t mind doing a bit of research and regularly rebalancing your portfolio about once a year.

5. Beware of account maintenance fees

Some 401(k) accounts charge administrative fees. Investments available in your 401(k) plan may also incur fees. You will want to understand your investment costs because the higher the fees you pay, the lower your effective returns.

If your 401(k) fees are very high, the best way to use this account may be to invest just enough to get matched from your employer and then contribute to another type of retirement investment account such as an IRA. IRAs can be opened with any brokerage firm, there are generally no fees for maintaining your account, and you will almost always have a much wider choice of investment options in your IRA by compared to your 401(k). In fact, you can invest in stocks, cryptocurrencies, and a host of other assets in many IRAs.

6. Consider returning your 401(k) when you quit your job

Finally, if you have to quit your job for some reason and you have a 401(k), you’ll have to decide whether or not to renew your account. Rolling over your 401(k) means transferring the money to another retirement plan – either your new employer’s 401(k) or an IRA.

If you transfer your funds, you can keep all your retirement money in one place so you don’t lose track of your account and better gauge whether you have the right asset allocation. You may also be able to reduce account maintenance fees or gain access to a better mix of investments. You don’t have to – you should be able to keep the plan with your current employer. But it’s often a good idea to explore all of your options.

By following these six steps, you can get the most out of your 401(k) and set yourself on the path to a safer future.

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