Retirement Savings Account Basics – 401(k), IRA, and Roth accounts

Sherpa Sense:

It is hard to think of retirement when you are just beginning to work. But your retirement savings will determine how long you stay in the workforce.

One of the smartest moves you can make is to start putting money into a 401(k) and/or an IRA account today.  The sooner you start saving the earlier you can retire!

Let’s Yak:

There are many ways to save for retirement, but we are going to focus on the most commonly used accounts. The government provides special tax benefits for these accounts.

401(k) – Named from a section of IRS code

This is an employer sponsored investment savings accounts. Many companies offer 401(k) retirement savings accounts as a way to help their employees save for retirement. Some companies additionally offer an employer match (up to a certain percentage) #freemoney. 401(k)s are a great way to consistently put money away every month as it comes out of each paycheck. Generally, the employer pays all fees associated with your 401(k) account and allows you select from a set of investment funds.  

  • A traditional 401(k), aka 401(k), plan is funded with pre-tax money (no tax is paid on the money when it is taken out of your paycheck), which means you pay taxes on the withdrawals in your retirement.
  •  A Roth 401(k) plan is funded with after-tax dollars from your paycheck, which means that you won’t have to pay any tax on withdrawals (since you paid them when you put money into the account).
  • Pre-tax or after-tax?  Why should you care? If you think that you will be in a higher tax bracket or that the tax rates will go up, you would be well-suited to use a Roth 401(k).
  • How much can I put in my 401(k) account? The contribution limit for an individual (<50 years old) is $19,000 for 2019. This limit general moves up a bit each year.

IRA – Individual Retirement Account

An IRA is an account set up at a financial institution that allows an individual to save for retirement with tax-free growth or on a tax-deferred basis. Anyone that has income can start saving using an IRA – even a minor. Your IRA can utilize a large variety of investment types like mutual funds, stocks, ETFs, certificate of deposits, etc.

  • Traditional IRA. You can deduct your IRA contributions from your state and federal taxes, reducing the taxes you pay today. Contributions and earnings grow on a tax-deferred basis until you start making withdrawals after you retire (>59 ½ years old).
  • Roth IRA. Your contributions are not tax deductible today, but you do NOT have to pay taxes on your withdrawals or distributions when you have retired (>59 ½ years old).
  • How much can I put in my IRA account? For 2019 total contributions can not exceed $6000 (<50 years old).

Super Saver

You can contribute to both a 401(k) and an IRA in any given year. The two retirement savings accounts are independent of each other, so double up if you can and save more for your retirement.

Take a Hike:

Find out if your employer offers a 401(k) retirement savings program. If so, set up your account and start contributing today. If they don’t, open an IRA account now. You can contribute to an IRA for 2018 until April 15th, 2019.

You can never save enough for retirement!

Yakety Yak:

Because there are income limits and tax requirements on these accounts, it warrants some investigation on your part before you decide which type of account to open.

And when it is finally time to retire…. You can start to take distributions (or withdrawals) when you turn 59 ½ years old from either a 401(k) or your IRA. There are penalties if you withdraw money before this time. #don’tdoit

Talk to a financial adviser or tax accountant as needed to get the most bang for your buck!

Trivia question:

Q: Who is the father of the idea of a 401(k) investment savings account for retirement?

A: Ted Benna. Using this idea, Congress passed the Revenue Act of 1978 that included a provision for 401(k) accounts.

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