How to Use a 401k Properly

Jul 10, 2024

How to Use a 401k Properly

Intro

  • Maximize wealth and retire early using a 401k
  • Two warnings:
    • Keeping things simple
    • No generic advice, only truthful and practical tips

Important 401k Questions Addressed

  • When should you start your 401k?
  • Optimal amount to fund annually
  • Best investment strategies within a 401k
  • Handling 401k accounts when changing jobs
  • Common errors that can cost retirement money

When to Start Your 401k

  • Start as early as possible
  • Emphasis on starting in your 20s due to the power of compounding
  • Example calculations:
    • $100/month starting at 25: $359,450 by age 65
    • $100/month starting at 35: $170,200 by age 65
    • $100/month starting at 45: $248,800 by age 65

Annual Funding Amount

  • Fund at least up to the employer match (free money)
  • Typical employer match: 50% match on 6% of pay
  • Example: Earning $100,000 means employer matches up to $6,000
  • After maxing employer match, consider:
    • Continuing to fund 401k
    • Investing in a Roth IRA (flexibility, tax advantages)
    • Other tax-advantaged accounts (HSA, 529 plan)
  • Standard guideline: Put away 10-15% of pay for retirement

Investment Strategies within 401k

  • Invest simply; avoid overcomplicating
  • Diversify across various asset classes:
    • Stocks, bonds, cash instruments, domestic, international, small caps, large caps, conservative, aggressive
  • Do not overly rely on age-related advice from financial advisors
  • Keep risk tolerance low regardless of age

Handling 401k when Changing Jobs

  • Four options:
    • Do nothing (leave with old employer)
    • Transfer to new employer
    • Transfer to Individual Retirement Account (IRA)
    • Cash out (not recommended due to taxes and penalties)
  • No significant advantage between options 1, 2, and 3
  • Consolidate for convenience if needed

Common 401k Errors

  • High fees: Choose funds with lower expense ratios
  • Do not borrow money from your 401k
  • Avoid early withdrawals (taxes and penalties apply)
  • Increase contributions over time as income rises
  • Financial advisors may not be worth the cost (2% of assets managed)

Conclusion

  • Like, share, and subscribe
  • Optimize 401k for retirement success