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10 Things To Know About 401(k)s, IRAs and Retirement Accounts


As seen on, here are a few of the many things to keep in mind when it comes to establishing the right retirement or investment account for you. Your situation is unique to you, and your investments should be tailored accordingly.

"10 Things You Absolutely Need To Know About 401ks, IRAs And Other Retirement Accounts

You may be too young to think much about retirement. But if you're out of school and in the labor force, you're not too young to be thinking about--and more importantly, funding-- retirement accounts. Here are 10 things you need to know about IRAs, 401(k)s and other retirement accounts, part of a Forbes special report on 100 things you need to know about money before you're 35.

 1.  Retirement accounts offer big tax breaks. Saving for retirement while you’re still young is crucial, since it gives your investments more years to earn returns and for those earnings to compound.  While you don’t have to funnel your savings into 401(k)s, IRAs or other dedicated retirement vehicles, the tax shelter these accounts provide boosts your effective annual return and your retirement prospects.

 2. Tax sheltered retirement accounts come in two main varieties: pre-tax and Roth.  Money you contribute to a pre-tax retirement account isn’t subject to current income taxes.  Your investments grow tax deferred and then, in retirement, all your withdrawals are taxed. Roth accounts work in reverse:  you deposit already taxed earnings into a Roth, where your nest egg grows tax free. That means you won’t pay taxes on withdrawals in retirement.  If you are just starting your career and expect your income and tax rate to rise, it makes sense to put at least some of your retirement savings in a Roth.

 3. Most workplace retirement accounts have another big benefit: an employer match.  If you’re offered a 401(k) or a similar plan designed for non-profit or government employees --those are known as 403(b) and 457 accounts--your employer is likely to match some portion of your contributions.  For example, if you save 3% of your salary, your employer might also kick in 3%. Almost all big employers provide a match, but only two thirds of the smallest 401(k) plans do.

4. There’s a downside to retirement accounts: the early withdrawal penalty. If you take your money out before age 59 ½, you could be subject to a 10% penalty (in addition to ordinary income taxes) on the previously untaxed portion, including contributions and earnings.  There are 11 separate exceptions that can get you out of paying the 10% penalty, but they’re so tricky that they can trip up even smart investors.  Example: you can pay for college or grad school penalty free with funds from an IRA, but not from a 401(k).

5. The most flexible retirement account is a Roth IRA. You can contribute up to $5,500 a year in after-tax earnings to a Roth IRA. (Those who are 50 or older can put in $6,500.) While the money grows tax free for retirement, you can always take back your initial contributions, at any time, for any reason, without paying taxes or penalties. So after putting just enough in your 401(k) to snag your full employer match, fund a Roth IRA next.  (Note: the highest earners can’t contribute directly to a Roth IRA. For 2016, eligibility begins to phase out at $184,000 of modified adjusted gross income for married couples and at $117,000 for singles. However, there is a legal way to get around the income restriction---a backdoor Roth IRA—and this ploy works particularly well for young workers.)

6. Not all 401(k)s are a good deal. Some (mostly small) 401(k)s have very high administrative and investment expenses.  The median cost of plans with $1 billion plus in assets is just 0.29% of assets a year, compared to a median cost of 1.04% for plans with less than $10 million. The most expensive 10% of small plans eat up 1.53% or more of workers’ money each year, according to the latest annual survey of plans by BrightScope and the Investment Company Institute. You can see how your plan compares at

7. It’s worth pushing for a better 401(k) or an escape hatch.  The tax breaks available to 401(k) savers are big and as an employee, you can’t duplicate them on your own.  In 2016, the maximum you can sock away pre-tax in a 401(k) is $18,000.  (Those 50 or older can save an additional $6,000, for a total of $24,000 in pre-tax employee contributions to an employer sponsored plan.) The $18,000 you can put in a workplace plan is in addition to the $5,500 you can put in a Roth IRA. If the only choices in your 401(k) are overpriced mutual funds, lobby for better choices or at least for a “brokerage window”---an escape hatch that will let you buy low cost ETFs for your 401(k).

8. Automatic enrollment can make you dangerously complacent. These days, when you start a new job, you may be automatically enrolled into a 401(k), unless you opt out.  It’s easy. But there are two risks if you don’t pay attention. First, your money will likely be put into a target date fund which could carry excessive fees  or more risk than you realize. Second, you might mistakenly assume that the percentage of salary that you’re automatically signed up to save---usually 3%---is sufficient to provide for your retirement. It isn’t. A smart strategy: ramp up the percentage you save over time by saving part of any salary increase.

9. When you switch jobs, you should roll over your 401(k).  When you leave a job, roll your old 401(k) into an IRA or your new employer’s 401(k), in an institution to institution transfer. If you withdraw the money, you’ll owe taxes and likely that 10% penalty. What about leaving the money in your old 401(k)?  That might be okay, but if you leave behind an account worth less than $5,000, your ex-employer is allowed to dump your money into a high fee IRA invested in a money market paying a negligible return. Rather than growing, your retirement savings could actually shrink.

10. If you’re self employed, you have even more tax-saving retirement account choices.  Those include a  “solo” 401(k), a SEP-IRA, a SIMPLE-IRA, and even a defined benefit plan.  Good news for procrastinators: you can set up a SEP-IRA  for a given year up until the due date for that year’s 1040 tax return, including extensions. You can put up to 20% of your net earnings (and a maximum of $53,000 for 2015 or 2016) pre-tax into a SEP-IRA. If you have a regular job and moonlight on the side, you can double dip---using a 401(k) at work and setting up a SEP-IRA to shelter earnings from your side gig."

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