Recently, we’ve been asked many questions about “employer-sponsored, defined contribution plans”, such as 401k’s. Many of our clients – or their children or grandchildren – contribute to such plans. Why contribute to such plans? Here are several reasons:
- Fewer and fewer employers provide traditional, defined-pension plans to their employees, as companies do not want the burden or liability of funding an employee’s retirement pension for 20, 30, or even 40 years, long after the employee has retired from their company
- The burden of an employee’s retirement is now on the employee to save for retirement through 401k’s, 403b’s, 457’s, and other retirement plans, in which the employee makes contributions
• If an employee wants a financially secure retirement, it is up to them to save and invest for that retirement - Social Security was never designed as a retirement plan; instead, its purpose was as a safety net
• There are concerns about the viability of Social Security in the future, as there are fewer working people funding the huge numbers of retirees who are receiving Social Security
• In addition, some politicians have even proposed reducing, eliminating, or privatizing Social Security - 401k plans are an easy way to save for retirement, because with each paycheck, your contribution goes automatically into your 401k before you have a chance to spend it
• This “forced savings” is an easy, painless way to save for retirement, which does not require writing a check or having money come out of your checking account - Some companies even provide a “company match”, if an employee contributes to their 401k
• If an employee contributes a certain percentage of their income to their 401k, then the employer will match some or all of that contribution, up to a ceiling of maybe 2% or 6%
•This is FREE MONEY from your employer, so take advantage of your company match! - “But I can’t afford to put 15% of my income into my 401k?”
• You can’t afford NOT to save for retirement, because your employer and the government are unlikely to fully-fund your retirement - “I don’t know anything about investments, so how do I invest my 401k?”
• Some employer-sponsored retirement plans have investment choices based upon your projected retirement date, such as a “Life Cycle 2040 Fund”, which becomes more conservative as a person approaches their 2040 retirement date.
• Other options may include a variety of mutual funds for those who want to pick their own investments, or fixed/guaranteed accounts for more cautious investors - In most cases, contributing to a 401k or similar plan is the easiest way to reduce your taxes.
• For instance, if a person makes $100,000 per year and contributes 15% to their 401k, their taxable income is reduced to $85,000.
• Want a simple way to reduce your taxes? Contribute to your 401k!