We’ve all heard of 401(k) plans and many of us are already contributing to one in some form or another. But the number of people who truly understand how 401(k)s work is a much smaller pool.
In this article, we’ll look at the 6 most important things to know when it comes to your 401(k).
A 401(k) Is Only Available Through Your Employer
Other than a few exceptions when it comes to small business owners, 401(k) plans are only available through your employer.
Your employer, referred to as the sponsor, manages the plan and determines what investments are available within the plan. You can generally choose between the following types of funds and personally designate how to allocate your contributions between your chosen funds.
- Mutual Funds
- Bond funds
The handling of the actual investments is then usually given to a third-party company that specializes in 401(k) financial management.
Anyone can have a 401(k) plan if offered by your employer
Regardless of how much money you earn, whether it be from your employer or other sources, you can always participate in a 401(k) if offered by your job.
The only exception is based on the number of “highly compensated individuals” at the company in relation to the other employees. Although, this will not impact most people and involves the plan itself meeting federal regulations.
There are, however, limits to how much you can personally contribute, which we’ll touch on next.
You can contribute up to $20,500 annually to your 401(k)
Right now, the maximum contribution to your work 401(k) plan is $20,500 per year. There is an exception for those over 50, which then allows you to contribute an additional $6,500 increasing your maximum, annual contribution to $27,000.
Your Money Is Locked Away Until You Turn 591/2
The official withdrawal age for 401(k) purposes, set by the IRS, is 591/2.
Money contributed to a company 401(k) is not available to withdraw until you reach that age. There is an exception for you to withdraw your money if an emergency arises, but there is a penalty for doing so.
Early 401(k) withdrawals are taxed and you must also pay an additional 10% penalty on top of that. So early withdrawal is not recommended unless consulting with a financial expert first.
There is an exemption to this known as the rule of 55. If you leave your job in the calendar year after your 55th birthday, you can avoid these penalties when withdrawing.
401(K) Plans Have Fees
Managing your 401(k) isn’t free and unfortunately, there are fees involved that you will accumulate along the way. The good news is these fees are automatically deducted from your account, so you will not receive a bill or have to pay these on top of your contribution.The fees generally come in two types, fund fees and 401(k) management fees.
When You Start A New Job You Start A New 401(k)
A 401(k) does not move with you as you change jobs. This means that you cannot keep contributing to a 401(k) you established at a company you leave. You still own the 401(k), but you can no longer contribute to it as you did before.
You can, however, roll over your old 401(k) into your new employer’s plan if allowed. You can also generally roll your old 401(k) into an IRA, but an IRA has lower contribution limits.
Those are the top 6 things you should know about your 401(k). Hopefully, this helped you to better understand one of the most common investment tools in the market.
If you have $1 million or more in investable assets, please contact ICC Wealth Managment for expert financial advice concerning your retirement and 401(k) planning.
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