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Welcome back to another episode of Financial Advisors Say The Darndest Things! In today’s episode, A.B. Ridgeway, a Certified Private Wealth Advisor®️ professional, dives deep into the world of 401k plans. If you’re confused about how much to contribute to your 401k or what makes these accounts tick, you’re not alone. Many investors find retirement accounts perplexing, especially when it comes to understanding the nuances of contributions.
What is a 401k and Why is it Important?
A 401k is a retirement savings plan offered by many employers that allows employees to save a portion of their paycheck before taxes are taken out. This tax-deferred nature is a major draw, enabling your money to grow without being taxed until you withdraw it in retirement. But understanding how much you can and should contribute can be confusing.
“Most investors don't know the difference between an IRA and a 401k, let alone how much to contribute to one,” A.B. Ridgeway notes at the start of the podcast. This lack of clarity is common, but gaining a solid understanding of 401k contributions can significantly impact your retirement savings.
401k Contribution Limits for 2024
The first thing you need to know is the contribution limits set by the IRS for 2024. These limits are crucial as they dictate how much you can legally put into your 401k without facing penalties.
“The 401k contribution limits for 2024 are $23,000 for individuals under 50 years old and $30,500 for those 50 and over.” These figures represent the maximum you can contribute to your 401k account, with those aged 50 and over benefiting from an additional catch-up contribution, allowing them to save more as they approach retirement.
Types of 401k Contributions
There are two main types of contributions you can make to a 401k: employee contributions and employer contributions.
Employee Contributions
Employee contributions are the amounts you personally contribute to your 401k from your paycheck. “Typically these contributions are made from your payroll, meaning that they are pre-tax,” A.B. Ridgeway explains. This pre-tax advantage allows your contributions to grow tax-deferred until you withdraw them in retirement.
For instance, if you contribute $500 a month to your 401k, you’re lowering your taxable income by that amount. This not only reduces your current tax burden but also helps your savings grow over time. However, remember that withdrawals during retirement will be taxed as ordinary income.
Employer Contributions
Employer contributions, on the other hand, are not mandatory but are a significant benefit offered by many companies. “Most companies will match your contribution up to a certain percentage,” Ridgeway states. This match is often a percentage of your salary and can range from 1% to as high as 7%.
Imagine your employer offers a 50% match on contributions up to 6% of your salary. If you earn $60,000 a year and contribute 6% of your salary ($3,600), your employer would add an additional $1,800 to your 401k. This effectively boosts your retirement savings without you having to put in extra money beyond your initial contribution.
The Importance of 401k Employer Matching
Taking full advantage of employer matching is crucial. “I like to say that in a 401k, it’s like free money, but it’s your right as an employee,” Ridgeway emphasizes. This match is essentially a guaranteed return on your investment, which can significantly enhance your retirement savings over time.
Example: Maximizing Your Employer 401k Match
Let’s break this down further with an example. Suppose your employer matches 100% of your contributions up to 4% of your salary. If you earn $50,000 and contribute 4% ($2,000), your employer will add an additional $2,000. If you only contribute 3%, you miss out on that extra $500 match.
“These are benefits that are provided for you, so take full advantage of them,” Ridgeway advises. Not utilizing the full match is like leaving money on the table, so aim to contribute enough to get the maximum match your employer offers.
401k Tax Implications and Strategies
One common misconception about 401ks is that they are double-taxed. “Contributions to a 401k are made before taxes and are only taxed in the year you make a withdrawal,” Ridgeway clarifies. This means that while your contributions reduce your current taxable income, you’ll pay taxes on your withdrawals at your ordinary income rate in retirement.
“The federal government is actually trying to help you,” Ridgeway explains. By deferring taxes until retirement, you might benefit from a lower tax bracket if your income decreases after you stop working.
Example: Tax Strategy
Consider this scenario: You’re currently in the 22% tax bracket, but you retire and your income drops to a 12% tax bracket. By contributing to a 401k now, you benefit from the lower tax rate on your contributions and potentially pay taxes at a lower rate when you withdraw the funds in retirement.
401k Loans and Emergencies
401k plans offer a unique feature not commonly available with other retirement accounts: the ability to take a loan against your 401k balance without triggering a taxable event. “You can actually take a loan off of your 401k without causing a taxable event,” Ridgeway notes.
“Sometimes we retire from business, we sell our business, and in that one year we have this huge influx of assets and that can destroy us financially,” Ridgeway warns. Having access to emergency funds through a 401k loan can be a lifesaver in such situations.
Example: 401k Loan
Imagine you need $5,000 for an unexpected expense. If your 401k plan allows loans, you can borrow this amount from your retirement savings, repay it with interest, and avoid immediate tax consequences. However, ensure you understand the terms and implications, as borrowing from your 401(k) can impact your long-term retirement savings.
Common 401k Pitfalls and How to Avoid Them
One of the biggest mistakes individuals make is not contributing enough to take full advantage of employer matches or failing to stay informed about contribution limits. “One decision about how you take that money out can destroy your 401k,” Ridgeway warns. Improper withdrawal strategies can significantly impact your retirement funds, potentially leading to substantial losses.
“If you’re in a 12% tax bracket and that portion of that money falls into that tax bracket, that’s what you’re going to be taxed at,” Ridgeway explains. Planning your withdrawals and understanding tax implications can help you minimize taxes and maximize your retirement savings.
Understanding how much to contribute to your 401k and the rules surrounding it is essential for building a secure financial future. From knowing the annual contribution limits to taking advantage of employer matching and understanding tax implications, making informed decisions can significantly impact your retirement savings.
For more in-depth information on 401k accounts, check out episode #303 of our podcast, where A.B. Ridgeway explores maximizing your 401k, understanding contributions, withdrawals, and tax implications in greater detail. Don’t miss out on these valuable insights—subscribe to Financial Advisors Say The Darndest Things to stay informed and make the most of your retirement planning!
Understanding 401k Contributions and Benefits
In this enlightening episode of Financial Advisors Say The Darndest Things, your host, AB Ridgeway, Certified Private Wealth Advisor®️ professional, dives deep into the world of 401k plans. Many investors are unfamiliar with the nuances of retirement accounts, particularly the differences between an IRA and a 401k. This episode sheds light on these topics, ensuring that you, as a savvy listener, are well-equipped to make informed decisions about your retirement savings.
Key Takeaways:
1. The Importance of Knowing Your Retirement Accounts: It's crucial to understand the different types of retirement accounts, including 401ks, IRAs, Roth IRAs, and 403bs. Each account type has distinct rules, benefits, and tax implications.
2. 401k Contribution Limits for 2024: For individuals under 50 years old, the maximum contribution limit is $23,000. For those 50 and older, the limit increases to $30,500. These limits are adjusted annually for cost-of-living increases.
3. Tax Implications of 401k Withdrawals: Contributions to a 401k are made pre-tax, and taxes are only applied when withdrawals are made. All withdrawals from a retirement account are taxed at ordinary income rates, not the more favorable long-term capital gains tax rates.
Quotes from the Episode:
1. "Most investors don't know the difference between an IRA and a 401k, let alone how much to contribute to one."
2. "All retirement accounts are not created equal. The rules for contributions and withdrawals can vary significantly."
3. "One decision about how you take that money out can destroy your 401k. I've seen it happen."
Resources Mentioned:
- Episode 303: Maximizing Your 401k: Understanding Contributions, Withdrawals, and Tax Implications. Dive deeper into the specifics of 401k plans and how to make the most out of your retirement savings.
Be sure to subscribe to Financial Advisors Say The Darndest Things for more expert insights and tips on managing your finances wisely. Don’t miss out on future episodes that will help you secure your financial future!
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As Christians, we were taught to be good stewards over our tithing and giving to the less fortunate. But when it came to our personal finances and investing we were left clueless on what the Bible says. What does the Bible say about managing debt, leaving a legacy, investing, and planning for your retirement? Mr. Christian Finance answers these and many other questions because we want to teach you how to become rich and righteous!
Meet A.B. Ridgeway:
A.B. Ridgeway, MBA, CPWA®️ (info@abrwealthmanagement.com) is the owner and Christian Financial Advisor with A.B. Ridgeway Wealth Management. With a decade in the finance industry, his goal is to give believers clarity around the most confusing topic in the Bible, money, and tithing. A.B. Ridgeway helps tithing Christians become cheerful givers but unlocking their money-making potential, so they can prosper and be the great stewards of the wealth God has entrusted them with.
*Disclaimer: This communication is not intended as an offer or solicitation to buy, hold or sell any financial instrument or investment advisory services. Any information provided has been obtained from sources considered reliable, but we do not guarantee the accuracy or the completeness of any description of securities, markets or developments mentioned. This is strictly for information purposes. We recommend you speak with a professional financial advisor.
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