As the class of 2018 trades its caps and gowns for blazers and cardigans, many of these first-time workers may be grappling with a number of important financial questions.
Balancing student loan payments, rent and happy hour is already a lot to manage in the present, but what about the future? At age 22, even saving for a house might feel like a distant goal — so do you really need to be thinking about something as far away as retirement?
The short answer is yes.
It’s never too early to take steps toward paying your future self. Thanks to the power of potential compounding, saving early and for the entire length of your career can make a dramatic difference at retirement. One of the best ways to do so is through your workplace 401(k) plan, which offers important tax benefits and may come with matching funds from your employer. If you’re brand new to saving in a 401(k), it’s helpful to know the basics.
The ABC’s of your 401(k)
First, understand what a 401(k) is, what it’s for and why it’s important.
A 401(k) is a savings vehicle offered by many employers that allows workers to invest for retirement. In 2018, you can contribute up to $18,500 a year (and people who are 50 or over can contribute up to $24,500, as they are getting closer to retirement and may need to play catch-up).
There are a couple of different kinds of 401(k)s — traditional and Roth — with different tax implications, so it is important to understand the difference. Traditional 401(k) accounts are funded with pretax money from your paycheck, which lowers your current taxable income but means you have to pay tax in the future. Any earnings grow tax-deferred over the course of your career, and you pay taxes when you withdraw the money in retirement.
By contrast, you fund a Roth 401(k) with after-tax money, which makes your withdrawals tax-free in retirement, once certain conditions are met. The Roth is a sensible option for those who anticipate retiring in a higher tax bracket than the one in which they begin their career, so it’s often popular among younger workers. Not all companies offer both options, so that’s something to ask about when you are getting ready to sign up.
You may have to wait
Speaking of, know that enrollment eligibility varies by company. Some companies may allow you to sign up for the 401(k) plan on your first day, while others may require you to be on the job for six months or a year before you can participate. Your benefits coordinator will have those details. If you are at a company with a waiting period, identify your eligibility date and create a reminder on your calendar to sign up on or around that day. Again, since invested money can grow over time, the earlier you start saving, the...