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Saving for your retirement doesn't have to be a nightmare as long as you are aware of your options. For now, we're focusing on 401K and 403B retirement plans. These two plans are essentially the same except that for-profit companies use 401Ks and non-profit companies, such as the government, use 403Bs.
An employee contributes to a 401K plan with pretax salary. This means that this account appreciates without taxation until you retire or leave the company. So, 401K contributions are not included in your reported income.
In essence, you receive an immediate tax deduction for your contribution.
Many employees offer an automatic payroll deduction, so there isn't any extra effort involved for you. Matching contributions or partial matching contributions are other incentives offered by employers. For instance, my employer matches every one of my dollars with a quarter. Sounds like small potatoes, but remember the beauty of compound interest.
Of course, there are rules and regulations. You are typically limited to a percentage of your income or $10,500 annually, whichever is less. So what happens if you leave your company? You have 3 options: leave it as it is, roll it over into another tax-deferred retirement account such as an IRA or withdraw it all. However, early withdrawal penalties, that is before age 59-1/2, are stiff. Usually, it's a 10% penalty plus any taxes owed. So, if at all possible avoid withdrawing any funds before age 59-1/2.
Your 401K portfolio should be chosen carefully, weighing age and risk factors. The older you are, the less stock you should have in your portfolio. Many financial advisors suggest that your portfolio percentage of stocks should be your age subtracted from 100. Therefore, a 25-year-old' s portfolio should consist of 75% stocks. However, if you're not comfortable with that level of risk, then simply chose fewer stocks. Do remember this: over the last century the stock market has returned an average of 11% (this includes all wars and the Great Depression). Your plan will most likely offer 4 to 7 investment options of mutual funds, stocks, bonds, etc. for your portfolio. My company provides 10 options of which I have chosen 5.
Chose wisely and consider how much risk you are willing to take. Most of all, you need to be comfortable with your choices. If you need further assistance in choosing your investment options, check out www.morningstar.com or the MorningStar books at your local library.
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