Life Fright

What are 401ks?

401ks are investment vehicles sponsored by an employer to help you the employee save money for retirement. The general idea is that for every paycheck, a portion of it is withdrawn based on your decided 401k contribution. This portion is is kept in the 401k account until you retire at which point you take RMDs (required minimum distributions) to retrieve the initial money allotted and compound gains .

Traditional 401k vs Roth 401k

The difference between these 2 types of 401ks boils down to when taxes on your 401k contributions take place. Traditional 401k have pre-tax contributions meaning that you avoid paying tax when you contribute the money to the 401k. When you start taking distributions from the 401k, that’s when you will be taxed on the contribution and any gains it has accumulated over time.

Roth 401ks are the opposite. The contribution to the 401k has taxes taken out of it. And when you start taking distributions from the 401k, you do not pay taxes on the contribution OR the gains it has accumulated over time.

How to take optimize your 401k?

• Opt for contributing at least as much to get the maximum employer match possible. This is a guaranteed profit on your contributions and it is free money sitting on the table waiting for you to claim it!
• Even better, contribute the yearly maximum 401k contribution possible. Always check the latest maximum amount, it increases a bit every year. Moreover, depending on your age you could be eligible to contribute more to the 401k.
• Make sure you are choosing to invest in a fund within the 401k. Otherwise, your money is not going to reap the benefits of compound gains!
• Use percentage-based contributions over dollar-based contributions if possible so that as your salary increases or you have bonuses or other windfall from your paycheck, your retirement account can benefit as well.
• Choose to incrementally increase your contribution percentage every year. Note that some plans do this automatically.
• Reassess your contribution limits for the next year and make the changes so that they can seamlessly apply to next year’s paychecks.
• Consider after-tax contributions and converting those to Roth contributions if your plan allows for it (known as the mega-backdoor Roth).

Have any other tips for optimizing 401ks? Leave a comment below!

Disclaimer: This content is for informational purposes only and should not be construed as legal, tax, investment, financial, or other advice. Please conduct your own research and due diligence before making any financial decisions.