Start Saving Today
Saving for retirement has never been more important as it is right now. With the cost of living rising more and more every year, markets fluctuating in ways that they never have before, and the economies of many countries in question, this is a very turbulent financial period for the world. That is why you need to start looking out for your future self right away by contributing to a 401(k) plan. What is a 401(k) Plan? A long-term investment vehicle that is offered through many workplaces and numerous financial institutions. Funded through payroll deductions, you are able to contribute money each pay period. These plans were created back in the 80’s to be a supplement for the numerous pension plans available, but with those defined benefit plans no longer being offered by many employers, the 401(k) has become the primary retirement savings vehicle for many people.
How does a 401(k) Work?
A 401(k) was designed so that employees can deposit some of their earnings into a long-term retirement savings plan each pay period. This disciplined approach is essential for most to assure that money is getting saved for the future. The general rule of thumb is to contribute a nominal percentage of your gross income each pay period up to a maximum contribution of $18,000 annually. However, many participants contribute a much smaller amount that their employer offers an incentive “match” on, which is a great feature with 401(k) plans. Most, but not all, employers will match some percentage of what you contribute to the plan. This means that if your gross income is $2,000 per pay-period and you choose to contribute 5 percent ($100), and your employer offers a dollar-for-dollar match on your personal contribution up to 5 percent of your gross income, your total contribution for that period would be $200, $100 of which is given to you by your employer. For traditional 401(k) plans, you will be able to make deposits on a pre-tax basis, but you will have to pay ordinary income tax when you ultimately withdraw money from the account. For Roth 401(k) plans, you will be taxed on the money before it goes into the plan, but you will never be taxed on the distributions including gains. To figure out which option or mix that is best for you, you may want to consult with a financial advisor.
Why Start Now?
The short answer to this question is the “Time Value of Money.” This concept is one of the foundations of finance, and it becomes apparent here. As an example, let’s assume Joe decides to start contributing 5 percent of his annual salary of $50,000, with his employer matching this amount ($5,000 annually). If he begins at age 25, and assuming a 7% average, compounding annual interest rate, he will have accumulated $1,068,048 at age 65. If he waits just five years and begins at age 30, his account will grow to only $739,567. That is over 25% lower as a result of delaying only five years. With the time value of money and compounding interest working to your advantage, as well as the fact that your employer may offer you free money to contribute to your plan, there is no time like the present to start working on building your nest egg for retirement income.
Kettler Financial, located in the Coral Gables/Miami area, has been implementing 401(k) plans for businesses since 1992.