A 401(k) is a retirement savings plan offered by your employer. Employees make contributions out of their paycheck, usually automatically. Their employer may match that contribution up to a certain percentage.
It’s a 40-year-old system that most people consider the foundation of their retirement plan. But too many people assume it will cover all of their expenses, and don’t look into what they’re really going to need.
Is Your 401(k) Enough?
The first step is to find out how much money you will actually need for retirement. The general rule of thumb is that you should aim for about 80% of your pre-retirement income to live on per year. This number will be different for everyone, so ask yourself the following questions:
- What are your living expenses? What do you expect them to be in retirement? Planning to travel the world or sitting at home tending to your vegetable garden will yield different results, so consider the type of retirement you want to have.
- Have you factored in longevity? People are living longer, so you and/or your spouse may live longer than average. Prepare your savings for that.
- How’s your health? Medical expenses can be staggering later in life, so don’t forget to factor that in, especially if you have chronic health conditions already.
Once you have a ballpark savings number, you need to see if your 401(k) will get you there. There are many helpful online calculators like this one that can help you come up with a number.
If your 401(k) falls short or just barely makes it, you should look into supplementing your retirement savings.
Boost Your 401(k) Savings
If you realize your 401(k) savings are less than you thought, one easy solution is to simply increase your contributions. However, there is a cap to how much you can save annually. That becomes problematic if you have a higher income.
Employees can save up to $18,500 in a 401(k) 2018, plus an additional $6,000 if they are 50 or older. If you make more than $150,000 per year, that limits the percentage of your income that you can put away.
Add what you can to your savings, but if you hit that limit, there are other ways to supplement your retirement nest egg.
Open an IRA
Both traditional and Roth IRAs offer tax incentives that make them attractive additions to a 401(k).
Traditional IRA contributions can be tax-deductible depending on how much money you make. Withdrawals during retirement incur taxes at the typical income tax rate. Anyone under age 70 ½ who earns an income can make contributions to a traditional IRA, but whether it is tax deductible or not depends on your income.
Roth IRA contributions are not deductible, but earnings and withdrawals are tax-free. You can open a Roth IRA if you meet the income requirements. That would be less than $199,000 for married couples filing jointly and less than $135,000 for singles and heads of household in 2018.
Even if your 401(k) comfortably covers your retirement needs, opening an IRA boosts your savings and gives you more flexibility when you begin to withdraw money from retirement accounts.
Open a Brokerage Account
If you make too much money, a 401(k) won’t allow you to put away enough money for a fully funded retirement. IRAs are also limited by income. If this is your situation, look into opening a brokerage account.
You open a brokerage account with a brokerage firm, and from there, you can buy and sell investments like mutual funds and ETFs. These are taxable accounts, so you will have to pay taxes on your earnings. But don’t let that scare you off, because the flexibility and earning potential with these accounts are well worth the cost.
Brokerage accounts offer liquidity, meaning you can pull the money out and spend it on whatever, regardless of your age, which is the downside of other retirement accounts. But if you can, max out your 401(k) and IRA accounts first, then consider a brokerage account. It’s a nice cushion to add on to your overall retirement savings.
About Your Richest Life
Katie Brewer, CFP®, believes you too should have access to financial resources and fee-only financial planning. Contact Katie today for more information.