Maximizing Employer Retirement Benefits: How to Make the Most of Your 401(k) in Your 20s
Retirement may seem like a distant milestone when you're in your 20s, but taking advantage of your employer's retirement benefits early on can set you on a path towards financial security and freedom. You hear it time and time again, but the earlier you start, the more your money may be able to grow over time. This could mean that you set yourself up for financial freedom sooner. It could also mean that you may have the chance to leave money behind for family or charitable organizations if that is something you aspire to do. One of the most valuable retirement benefits offered by many employers is the 401(k) plan. We’re exploring how you can maximize your employer retirement benefits and make the most of your 401(k) in your 20s
- Understand the Basics
First things first, familiarize yourself with the basics of a 401(k) plan. Learn about contribution limits (under the IRS limits for 2023, you can contribute up to $22,500), employer matching contributions (these vary by company), and vesting schedules (this is how long it takes until your company’s contributions are 100% yours). Understanding these fundamentals will help you make informed decisions and take full advantage of the benefits offered. If you aren’t sure if your company offers one, it is worth asking about!
- Start Contributing Early
One of the greatest advantages of starting your 401(k) contributions in your 20s is the power of compound interest. By starting early, even with modest contributions, you can potentially amass a substantial amount over time. Aim to contribute at least the minimum required to receive the full employer match, as it's essentially free money that accelerates your savings. For example, let's assume you were paid twice per month, chose to contribute $50 per paycheck to your 401k only for 10 years, were able to earn 7% on your investments each year, but stopped contributing after 10 years. If you started at 25 years old, by the time you were 55, you would have a little over $70,000 in your account. Now let's change the equation a little. Let's say you didn’t start when you were a 20-something and waited until you earned more. Instead, you started saving when you were 35, but saved $50 per paycheck for 20 years. By waiting and saving twice as long, you would only end up with a little over $52,000. By saving for only ten years when you are 25, you still come out ahead than the one who waited until they were 35.
- Increase Contributions Regularly
As your income grows, make it a habit to increase your 401(k) contributions regularly. Whenever you receive a raise or a bonus, consider allocating a portion of that increase towards your retirement savings. Gradually increasing your contributions ensures that you are saving a higher percentage of your income without feeling a significant impact on your day-to-day finances. Some plans even have an automatic increase feature where it will increase your contributions automatically every year!
- Take Advantage of Employer Matching
If your employer offers a matching contribution, don’t let this opportunity pass you by. Employer matching is essentially an immediate return on your investment and free money. Take the free money! Be sure to contribute at least what is needed to receive the maximum match offered, as it is an opportunity to grow your retirement savings at an accelerated pace. Not every company offers this, so if yours does, you would be wise to capitalize on it!
- Diversify Your Investment Allocation
Take the time to understand the investment options available within your 401(k) plan. A well-diversified portfolio can help to mitigate risk and maximize your potential returns for the risk you are comfortable taking. Consider spreading your investments based on your risk tolerance and long-term goals. Some plans may have options that target a particular future point in time that you intend to access your money. These are called target date funds and can help diversify your portfolio without you doing a lot of research. Other plans may offer what are called target risk investment options. These target a risk level you are comfortable with, but leave the investment research and allocation to a 3rd party to do for you. Sometimes these have an additional fee, so be sure you understand what you are getting into.
- Stay Invested for the Long Term
Resist the temptation to withdraw funds from your 401(k) before retirement. Early withdrawals may incur penalties and hinder the growth of your savings. Remember that your 401(k) is designed for long-term retirement savings, so stay committed to your goals and let your investments grow over time. Also, avoid the urge to move your money into more conservative investments just because the market has gone down. If you were to look back over time at the major US stock market indices, they have gone up and down, and sometimes stayed down for a longer period of time. However, they have eventually recovered and moved on to new highs. When the stock market goes down, this gives you a chance to buy more of whatever you are investing in. This helps your investments recover as the markets rebound because you own more of what is rising in price. Stay the course.
- Stay Informed and Seek Professional Advice
Keep yourself updated on retirement planning strategies, tax implications, and any changes to retirement laws. Additionally, consider consulting a financial advisor who specializes in retirement planning. Often times, by engaging an advisor, they can help you get where you are trying to go with your finances more efficiently. A qualified advisor can provide personalized guidance based on your specific financial situation and help optimize your retirement savings strategies. The notion that someone has to have a certain amount of money to engage an advisor is just one way to procrastinate getting your financial journey on the right track.
Your 20s are a pivotal time to start maximizing your employer retirement benefits, particularly through your 401(k) plan. By understanding the basics, starting early, increasing contributions over time, and taking advantage of employer matching, you can make significant strides towards a financially secure retirement. Remember, consistency and long-term commitment are key.
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