401k Plan – Most people have heard of the “401k” retirement savings plan, and even the small amounts can add up when compounded over long periods of time. The result can be a lot of money in additional wealth for you to live on later in life. This simple truth is one of the reasons many financial planners recommend tax-advantaged accounts and investments such as traditional / Roth IRA’s and municipal bonds.
For example, in the past, these decisions were not as crucial because of the prevalence of defined-benefit pension plans. Today, those old-world pensions are going by the wayside at many U.S. firms; instead, most of today’s workforce is likely to find their retirement years funded by the proceeds of their 401k retirement plan. In other words, the days of working for a company like General Motors or Texaco for 20 years to receive a large pension are over.
Let’s talk about what a 401k retirement plan is and how this special type of account is funded through pre-tax payroll deductions. The funds in the account can be invested in a number of different stocks, bonds, mutual funds or other assets, and are not taxed on any capital gains, dividends, or interest until they are withdrawn. The retirement savings vehicle was created by Congress in 1981 and gets its name from the section of the Internal Revenue Code that describes it; you guess it – section 401k.
There are five key benefits that make investing through a 401k retirement plan, particularly attractive. They are:
- Tax advantage
- Employer match programs
- Investment customization and flexibility
- Loan and hardship withdrawals
- Tax advantage of 401k retirement plans
The primary benefit of a 401k retirement plan is the favorable tax treatment it receives. Dividend, interest, and capital gains are not taxed until they are disbursed; in the meantime, they can compound tax-deferred inside the account. In the case of a young worker with three or four decades ahead of them, this can mean the difference between living at the Ritz-Carlton hotel or the Budget 8 located in the bad area part of town.
Always save your money for retirement, and make sure you open an IRA or 401k plan because it’s never too late.