How to Put Your 401k On Autopilot
Many retirement planning advisors recommend prioritizing funding your 401k over other spending because contributing to your 401k makes it possible to defer paying income tax on retirement savings. One of the best ways to build value in your 401k is to put your contributions on autopilot.
Determine How Much You Want to Contribute
Several factors go into deciding how much of your paycheck to put into your 401k. The first is your expenses versus your income. Many experts recommend contributing 10% of income, but if your budget won’t allow it, you may need to start with a smaller percentage and then gradually increase it as your income goes up or your expenses go down. The next factor is whether your employer offers a company match. An employer match is like free money, so if you can afford to contribute at least the maximum amount that your employer will match, do so. Finally, consider the average 401k return versus other investment opportunities you have.
Think About a Roth 401k
If your company offers a choice between a traditional and a Roth 401k, you may want to review the pros and cons with your financial planner. Traditional 401k contributions are made with pre-tax dollars, but you pay taxes when you withdraw the money. Roth contributions are after-tax dollars, but the withdrawals are tax-free. Roth accounts can be beneficial to younger employees who are currently in a lower tax bracket than they expect to be when they retire.
Research the Default Investment Strategies
Many 401k funds have several investment strategies employees can choose from. The default is often a target-date fund. These funds are intended to maximize your investments based on the estimated date you plan to retire. However, this may not be the best choice for you. You may want to review your options with a financial planner and choose how much of your contribution you want to put into each one based on your financial goals.
Diversify Your Investments
Most 401k funds have a variety of stock, bond and cash options to choose from. Select the options that best match your risk tolerance. Commonly, younger investors who have more time to save before retirement may choose higher growth options that come with more risk, while older investors may opt for safer investments with slower growth.
Reduce Your Costs
The investments in your 401k plan come with fees and expenses that are deducted from your returns. If fees are eating away at your return, consider switching some of your investment to lower-cost index funds. Review the statement your plan sends you every year and make note of the fees you are paying.
Prioritize Your Spending
When deciding whether to contribute money to your 401k or pay off debt, examine the interest rates you are paying on the debt versus the expected return on your 401k. It may be a good idea to prioritize paying off high-interest credit cards, but lower-interest debt, such as student-loan payments, may not be as much of a priority if your investments have a higher rate of return than what you are paying in interest.
Set Up Recurring Payments
Once you have all of your decisions made about how much money to contribute and which funds to contribute to, set up recurring payments so that money is going into your account every payday. This will help you consistently grow your fund and avoid the temptation to spend the money elsewhere because you never see it in your bank account.
Roll-Over Your Account If You Change Jobs
Avoid cashing out your account if you change jobs. Taking money out of your 401k before the age of 55 will incur a 10% early withdrawal penalty and you will have to pay income tax on the amount you take out. Instead, roll over your account to your new job or transfer it to an IRA.
Conclusion
There are several decisions to make when it comes to setting up your 401k. However, once you get everything set up, you can mostly leave it alone with only periodic reviews.
