You want to start preparing for your retirement as early as possible, so you’re considering signing up for a 401(k) at your workplace. Before you sign anything, you should read these three important facts about
You want to start preparing for your retirement as early as possible, so you’re considering signing up for a 401(k) at your workplace. Before you sign anything, you should read these three important facts about 401(k)s first.
1. The Type of 401(k) Impacts Your Taxes
All types of 401(k)s are considered tax-advantaged retirement accounts, but they will offer those advantages at different times.
With a traditional 401(k), your contributions are made with pre-tax dollars. When you make withdrawals in your retirement, they will be treated as taxable income.
With a Roth 401(k), your contributions are made with after-tax dollars. So, when you make withdrawals in your retirement, they won’t be taxed.
2. Your 401(k) Is Tied to Your Job
Your 401(k) is tied to the employer that sponsored it. If you ever decide to leave that workplace behind, you’ll have to make some changes to your 401(k). It’s not like your employer will allow you to continue to reap the investments when you are no longer an employee at the company.
You will have to do what’s called a 401(k) rollover — this means transferring the balance into another specialized retirement account. If your new employer offers 401(k) plans, you can contact your old plan administrator and have them transfer the funds into your brand-new plan. If your new employer doesn’t offer this option, you should have your administrator transfer the funds into a traditional individual retirement account (IRA) or a Roth IRA.
When it comes to 401(k) rollovers, you won’t be restricted by annual contribution limits. As of 2023, the annual IRA contribution limit is $6,500. If you need to roll over $30,000 from your 401(k) into an IRA, you won’t have to worry about the remaining $23,500. You can add everything to the account.
You can’t delay this transfer for too long. You’ll only have 60 days to complete the rollover before you face penalties.
3. There Are Penalties for Early Withdrawals
The savings that you’re growing in your 401(k) are solely meant for your retirement years. They’re not meant for any other purpose, which is why users are heavily discouraged from making withdrawals before their retirement years.
If you try to make an early withdrawal from your account before you reach the age of 59 1/2, you can expect to face a 10% penalty on the amount withdrawn. There are some circumstances that can exempt users from early withdrawal penalties.
In addition to that penalty, your withdrawal will be taxed as income at the federal tax rate. So, if the withdrawal was taxed at 22%, you would have to give over a quarter of your withdrawal to the IRS.
These reductions should make you think twice about making early withdrawals. You can turn to other solutions when you’re in desperate need of funds. If an expense is urgent, you can withdraw the necessary savings from your emergency fund and pay off the expense right away. If you don’t have an emergency fund, you could use a credit card or personal line of credit to cover the expense quickly and replenish the credit balance afterward. Or you could try to apply for an emergency online loan.
When you’re searching for an online loan as a solution, you need to double-check that it’s available in your location. So, you’ll want to narrow your search to your home state. For instance, if you live in Milwaukee or Madison, you’ll want to look for a loan that lets you borrow money anywhere in Wisconsin as soon as possible. Otherwise, you might waste your time filling out applications for online loans that aren’t even available in Wisconsin. That’s not what you want to deal with in an emergency.
You don’t want to make uninformed decisions when it comes to your retirement savings. So, remember these 401(k) facts before you sign up for the plan!