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So, you are eligible for the company's 401k.  Now What?

So, you are eligible for the company's 401k. Now What?

| August 23, 2018

If this is your first time participating in a 401(k) retirement plan, there are a lot of things to consider and decisions to make.  I hope this helps a bit.

First off, if you're lucky, your company does a match.  This is where they will give you money to encourage you to contribute to the plan.  Other plans will just give you money no matter what.  If you're in either one of these scenarios, in my opinion, becoming eligible is effectively a raise.

Now, there are strings attached.  Sometimes you need to stay a certain period of time, but it is free money for you to keep once you meet the criteria.

So, Job #1 is to find out about the match and make sure to contribute at least enough to get the whole contribution.


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The next decision that you'll be faced with is how much, as a percentage, to contribute over the minimum that you need to get the match, if any.  For most people starting out relatively young, you will need to contribute somewhere between 10% and 15% of your compensation to be able to retire.  Now, if you're starting really early, this might be a smaller number, whereas later this might be a larger number to make up for lost ground.  The decision around this is a little bit more complicated by the fact that you will have to decide whether or not you want to take a tax deduction today and contribute to the Traditional 401(k) or use the new Roth 401(k) option where you don't get the tax deduction today. 

The government gets you one way or the other.  They either get income tax on the front end when you contribute to the account with the Roth, or they get a percentage of your distributions when you're retired with the Traditional 401(k).  Whether or not you choose the deductible or nondeductible 401(k) may also make an impact on what percentage you can contribute to the account.  The good news is you can change that percentage if it turns out to be too high.  But I urge you to go as high as you think you can handle to get going on your retirement savings, the sooner you start and more you contribute the easier it will be for you in the long term. 

Generally, for those that are considering the Roth, I would say the younger you are and the less in income taxes you pay, the more attractive the Roth becomes.  If you are earning enough to where you're in a higher tax bracket, or you and your spouse are filing jointly, you may want to do the tax-deferred aka the Traditional 401(k).  You want to think about what your tax rate is today versus what you think your tax rate will be in retirement.  Often times, when we're still working, we're in a higher tax bracket than when we are in retirement since you no longer have a paycheck.  But it depends on each person's specific situation.  Consider talking with your CPA or financial advisor and try to avoid rules of thumb.  Rather, determine what's actually appropriate for your specific situation.  The good news, too, is you can change from a Traditional to a Roth and a Roth to a Traditional anytime for future contributions. 


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Next up to consider is what asset allocation would be appropriate for you.  Generally, the younger you are or the more aggressive you are, the more stocks you would have in the portfolio than some of the safer investments like bonds and cash.  Then, as you do close in on retirement, you want to start having a larger allocation of safer assets so that you can weather the storm when the markets are down.  This way, you don’t have to sell stocks when they are low. 

There may be a target date allocation option in your portfolio in which you choose a year of approximately when you want to retire, or there may be model allocations that your advisor or 401(k) provider offers.  You can try to pick the specific investments yourself, but it is somewhat complicated if you don’t do it frequently. 

So lean on those that have either been in the plan and know how it operates or the financial advisor to put together an asset allocation that's appropriate for you.  It's not just stocks versus bonds.  There are large, medium, small companies, international developed companies, international emerging companies and different kinds of bonds and cash as well.  Diversification is important here.  You don't want to have all of your eggs in one basket, so be sure to spread it around in different types of investments.

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Another step is the morbid decision of who gets your money if you die.  Please fill this information out.  The good news here is you generally don't need social security numbers for your loved ones.  They help, but it not having them handy shouldn't you from putting down one or more people to receive your money if something were to happen to you.  Things are much easier if the beneficiary form or designation is made out, and even if you're not going to contribute to the plan, please do this as your employer may be contributing on your behalf. 


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Now mentally commit to your future self that you will hold these investments as sacred and off limits until retirement.  Dipping into these dollars during your life before retirement robs big dollars in the future for smaller amounts today.  Plus there can be big taxes an penalties.  If you have a death in the family, sickness, or something else REALLY bad it MIGHT be okay to take the money out.  But if it’s for something you can live without, please just say no to premature 401k withdrawals. 

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Finally, do yourself a favor and check the math on your retirement projection.  If you, for example, need to save $1 million by the time you retire, are you on target?  How on track are you for this target with the percentage of pay you're putting in, the company is putting in, your spouse is contributing to their plan if applicable, other assets, how much you're saving, etc?. 

If you're not on track today, it might be easy to make a small course change that would bring you a lot closer to success in the future.  But the longer you wait, the harder it is to close that gap. 

Thanks for taking a look.  Please let me know if you want to brainstorm together!

Tom Gartner, MSAPM, CFP®


This article represents opinions of the authors and not those of their firm and are subject to change from time to time, and do not constitute a recommendation to purchase and sale any security nor to engage in any particular investment or legal strategy. The information contained here has been obtained from sources believed to be reliable but cannot be guaranteed for accuracy.