Can You Answer These Questions About Your 401(k)? – Madison.com

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More than 3 out of 4 Americans expect their 401(k) plans to be their most important income source during retirement, according to a 2015 Guardian survey. If you’re counting on your 401(k), you’ll need a balance well above the national average of around $92,000, which would provide less than $3,700 in annual income. 

Relying on a 401(k) can be smart, since you get great tax breaks and can automate contributions from your paycheck to make saving simple. But you only will build a big enough balance in your 401(k) if you’re proactive. This means, first and foremost, knowing the current state of your account.

To make your 401(k) the major source of retirement income you’re hoping it will become, answer these four questions now — and make sure the answers are good ones. 

Image source: Getty Images.

1. What fees are you paying?

High fees can decimate your 401(k) and destroy your chances of a secure retirement. Take a look at how fees impact savings if you invest $5,000 a year from age 30 to 65 and earn 7% on your investments. 

Fees

Savings at Retirement

Amount Lost Due to Fees

Additional Annual Contributions
to End Up With Same Balance

0

$691,184.39

0

0

0.5%

$620,173.45

$71,010.94

$575.51

1%

$557,173.90

$134,010.49

$1,202.59

1.5%

$501,256.82

$189,927.57

$1,894.51

2%

$451,601.54

$239,582.86

$2,652.59

2.5%

$407,483.09

$283,701.30

$3,481.14

3%

$368,261.12

$322,923.27

$4,384.43

3.5%

$333,370.06

$357,814.33

$5,366.62

Unless you love to fatten the pockets of finance companies, and you have an extra $5,000-plus a month to invest, you’ll need to keep fees as low as possible. Fees to watch out for include plan administration fees, individual service fees, and investment fees like commissions and fund-management fees.

You can keep investment fees down by choosing low-cost ETFs and mutual funds. If administrative and individual fees are high, talk to human resources about lowering them. If this isn’t an option, you may want to invest only the amount necessary to take advantage of an employer match in your 401(k), and then put your cash into other tax-advantaged retirement accounts, like IRAs, where you don’t have to pay fees and have a broader choice of investment options. 

2. What’s your employer match?

Speaking of employer match, do you know if your employer will give you free money for investing in your 401(k)?

Employers aren’t required to match 401(k) contributions, but many companies do provide matching funds. According to Zenefits, the most common employer match is a dollar-for-dollar match on the first 6% of employee deferrals, but there are different options for how a match is calculated.  

If you don’t contribute at least enough to your 401(k) account to get the match, you’re leaving free money on the table — and likely a lot of it. If your employer invested just $1,000 in matching funds in your 401(k) for you from age 30 to 65, and the money grew 7% per year, that employer match alone would turn into $138,236.88. 

Can you afford to forego more than $100,000 in free retirement cash? If not, find out what your match is today, and set up automated deductions from your paycheck now so you’re getting the full match. 

3. What’s the contribution limit?

Contribution limits to 401(k) accounts change periodically. For 2017, the maximum contribution limit is $18,000. In 2018, the contribution limit will be $18,500. If you’re over the age of 50, you’re allowed to make catch up contributions of an additional $6,000 annually, so you can contribute up to $24,500 in 2018. 

If you have the ability, try to contribute the maximum. If you do, you’ll be rewarded handsomely. If you manage to contribute $18,500 from age 30 to 65, you’ll end up with more than $2.5 million for your retirement.  

It may be beyond your reach to invest more than $18,000 a year of your income into a 401(k). But you can adopt some of the habits of retirement supersavers and work toward increasing your own contributions. Even a few years of hitting the maximum contributions makes a big difference in your final account balance. 

4. Is your plan a Roth 401(k) or a Traditional 401(k)?

Many people assume all contributions to a 401(k) are made with pre-tax funds. But this isn’t necessarily the case. Some 401(k) accounts are Roth 401(k)s, which means you invest with after-tax dollars — but as long as you follow rules for withdrawals, you won’t pay taxes on money you take out as a senior.

When you invest in a Roth 401(k), it costs more to invest up-front because you don’t get the tax break when you make contributions.  But reducing your paychecks by a little more today means you’ll enjoy tax-free income during your golden years.

You may have a choice about whether you want your 401(k) to be structured as a Traditional or Roth account. If you do, opt for a Roth if you think your tax bracket will be higher as a senior than during your working years.

If you don’t have a choice, know what type of account you’re investing in so you’ll be able to plan for taxes both now and in the future. 

Get your 401(k) on track

Now you hopefully know what your match is, how much you’re allowed to contribute, what you’re paying in fees, and how you’ll be taxed. Armed with this information, you can make more informed choices about how to save and invest so you can beat the average, and actually turn your 401(k) into the income-producing account you’re probably counting on it to become.

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