The Benefits of a 401(k) When Entering the Workforce

Doug Giageos |
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If you have recently graduated from high school or college and are entering the workforce, you may have the opportunity to open up a 401(k) through your new employer. In some cases, that employer will also offer matching contribution funds up to a certain percentage. While it sounds like a no-brainer to take advantage of these benefits early, less than one-third of employees ages 25 and younger participate in their employer’s 401(k) plan. 

It’s highly advisable to learn the benefit of investing early and often to help set yourself up for success in the future. Here are some key benefits to starting to invest in a 401(k) in your early 20s. 

Retirement Plans Offer Tax Breaks  

One of the most important reasons to start investing in a retirement plan early is the tax breaks that come with it. Every young person remembers the feeling of getting their first pay stub and seeing a large percentage of their pay taken out for taxes. By investing in a 401(k), contributions and earnings can grow tax deferred. 

In other words, the money you put away now will accrue interest and will not be taxed until you begin taking distributions from your account during retirement. 

Potential Employer Contributions 

Another incentive of investing in a 401(k) from a young age is employer contributions. Every employer is different, but many will offer some type of matching contribution for those who choose to participate in their sponsored retirement plan. Employer contributions are essentially “free money” for your retirement savings. 

Say your employer will match contributions one-to-one for up to 4% of your paycheck—anything you contribute up to 4% will be doubled. In this scenario, you should aim to contribute at least 4% of your paycheck in order to take full advantage of what many people consider to be “free money.”

Automatic Contributions 

Not only is opening a 401(k) a smart idea, it’s also very easy to contribute to one. Contributions are taken from your paycheck pre-tax and deposited directly into your retirement account. If you start saving early on, you may only notice a modest difference in your take-home pay. Most 401(k) plans also make it easy to automatically increase contribution rates each year—something that many financial professionals suggest to effectively compound retirement savings. 

Comfort in Retirement 

Lastly, the earlier you start to save, the more likely you’ll be able to comfortably retire when you get older. Compound interest builds over time, so the longer your account is open, the more you will have earned in capital gains. And starting now will allow you to build a good habit of saving a little bit every month. Even if you stop contributing because of unemployment or financial strain, the money you’ve already invested will continue to grow. 

Alternative Options for Retirement Plans 

If your employer doesn’t offer a sponsored 401(k) plan, you should consider an IRA plan instead. IRA plans offer similar benefits to traditional 401(k)s—they gain interest over time, can take automatic contributions from paychecks and involve tax benefits. You can choose from a traditional IRA, which is tax-deductible, or a Roth IRA, which is not tax-deductible but has the benefit of non-taxable distributions during retirement. 

Since these are independent plans, you can keep them open even if you start a new job that offers a 401(k). Many financial professionals even recommend keeping retirement savings in more than one type of account. 

Whatever career path you choose, saving for retirement is an important step in your adult life.

*This content is developed from sources believed to be providing accurate information. The information provided is not written or intended as tax or legal advice and may not be relied on for purposes of avoiding any Federal tax penalties. Individuals are encouraged to seek advice from their own tax or legal counsel. Individuals involved in the estate planning process should work with an estate planning team, including their own personal legal or tax counsel. Neither the information presented nor any opinion expressed constitutes a representation by us of a specific investment or the purchase or sale of any securities. Asset allocation and diversification do not ensure a profit or protect against loss in declining markets. This material was developed and produced by Advisor Websites to provide information on a topic that may be of interest. Copyright 2021 Advisor Websites.