You know the person who cuts your hair and the barista at your coffee shop, but how well do you know your retirement plan?
It’s important to get acquainted with your 401(k) — or whatever retirement savings account your employer offers — because this may be one of the most significant relationships in your lifetime. That’s because Social Security likely won’t pay enough to cover your retirement expenses, so you’ll need to save on your own. A 401(k) offers tax breaks, and many employers throw in a bit extra by matching some portion of what an employee contributes. Can you say the same for your hairdresser?
Employers aren’t required to offer retirement plans to employees, but if you have one, here’s what you need to know:
Your employer’s role
There are no rules about what investments should be included in retirement plans, but companies have the responsibility “to exercise the judgment that a prudent investor would use in investing for his or her own retirement,” according to the IRS. The investment choices offered, fees and amount (if any) of matching employer contributions will vary.
Expect to get information from your employer about:
- Eligibility requirements, including minimum age to participate, how long you must work before you can participate and when you’re eligible to receive employer contributions.
- The name of the provider administering the 401(k) plan and how to set up an account (including designating beneficiaries).
- How to have contributions automatically taken from your paycheck.
- Whether you can roll over or transfer money from previous retirement plans.
Employers generally don’t offer advice but instead steer employees with questions to the plan provider.
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You’ll make two primary decisions about your 401(k): How much to contribute and how to invest that money within your 401(k).
Contributions: Decide how much money you can set aside. Experts recommend saving up to 15% of your gross income for retirement and other goals. For 2018, you can contribute up to $18,500 to a 401(k) if you’re under the age of 50, or $24,500 if you’re 50 or older. Those amounts will increase by $500 in 2019.
Investments: This is where things get more interesting or challenging, depending on your perspective. But don’t give up, because investing is the key to achieving your retirement goal.
The following types of mutual funds, which pool money from many investors and invest in a basket of assets, are most commonly found in retirement plans:
- Stock funds: You’ll generally be able to choose from companies of different sizes (large-, mid- and small-cap stocks) and from different geographic regions (U.S. and international).
- Bond funds: Options range from funds that represent the entire bond market to region-specific ones.
- Alternative assets or real estate: These may be included to add diversification to your portfolio.
- Target-date retirement funds: These are designed with a mix of investments that changes over time depending on when you plan to retire.
Diversification is the goal — pick a mix of investments to make sure your results don’t depend too much on one type of asset. If you choose a target-date retirement fund, that work’s been done for you, but make sure that fund is the right fit for you.
Also, check the net expense ratios for the available investments; these fees, expressed as a percentage of your investment, cut into your long-term returns. Find the information on your plan provider’s website or in the prospectus for each fund. For comparison’s sake, in 2017 the asset-weighted average expense ratio was 0.59% for equity mutual funds, 0.48% for bond mutual funds and 0.44% for target-date mutual funds, according to the Investment Company Institute.
Maximize your benefits
Retirement plans aren’t just a place to save money. Plan providers now offer educational tools to make you a smarter saver. Don’t overlook these features.
Fidelity Investments, the largest 401(k) provider, offers options to set retirement goals, calculators, educational resources, workshops, videos and tips for preparing for various life events.
Many questions you have about finances can be answered by your plan provider. The more time you spend getting to know your 401(k), the more informed you’ll be about your retirement goal and how to craft a strategy to get there.