A 401(k) is an excellent retirement savings method, but you need to know how you should use it to get the most out of it. There are so many rules that surround these accounts, it is easy to make terrible mistakes if you are not careful. There is one mistake in particular you will want to avoid at all costs if you are trying to maximize your savings.
Don’t leave any money on the table
You will probably end up paying for most of your retirement expenses all by yourself, but if you qualify for the 401(k) match, you might get some help from the company you work for. Just As long as you add to your 401(k) account, your employer will also add some cash in your 401(k) for your future. However, this is a limited-time offer.
After the year is over, your opportunity to claim a 401(k) match for that year will be gone. If you were to skip your 401(k) contributions, you are essentially giving up a big bonus — one that might be worth a few thousand dollars in the future.
Every business has its own unique 401(k) matching formula, so discuss this with your HR department to find out how yours will work. The most common approach is to do the dollar-for-dollar 401(k) match on 3% of your salary or do a $0.50-on-the-dollar 401(k) match on 6% of your salary.
So, if your salary was $50,000 this year, that means you would contribute either $1,500 or $3,000 of your personal money and the company you work for would put in another $1,500 for you. And each year you work there, you will be able to earn another $1,500 match from your employer– or even more than that if you were to get a raise in the future.
If you have consistently earned the $1,500 match over a 20 year span and that money earned an 8% average yearly rate of return, your matches by themselves would be worth over $71,500. And that is not including any contributions of your own money. If you had contributed $1,500 of your personal money each year, you would have double that within 20 years.
But just because it is in your account does not mean it’s yours
You should definitely try claiming a 401(k) match if you were to qualify for one, but you usually cannot just take the money out and run. Most 401(k)s will have a vesting schedule that will determine when your 401(k) match can actually belong to you.
Some businesses have what is called a cliff vesting schedule. This states that you must work for the employer for a certain number of years before you are allowed to keep the employer-matched 401(k) funds if you were to quit your job.
Others use what is called a graded vesting schedule, which is where your 401(k) match will be released to you gradually over a period of time. You may get to keep 25% of your match if you quit the job after one year, 50% if you quit after two years of working for the company, and so on.
Once you are fully vested, you could take all employer-matched funds out once you leave the company. If you are not sure whether you are fully vested already, it would be a good idea to check with your HR dept. Those who are not may want to stick with their current job for a while longer, so they do not forfeit some of their retirement savings.