Continue Reading Below
If you're a worker with a 401(k) or similar workplace retirement plan, then it's probably your main retirement savings vehicle. Pensions are vanishing, and the responsibility of building a retirement nest egg rests on our shoulders. So if you want to retire in comfort, you'd better learn how to manage your 401(k) responsibly.
Here are four 401(k) investing tips that could earn you thousands of dollars more over the course of your career.
1. Don't wait to saveSaving and investing for retirement is a marathon, not a sprint. For those who are new to the workforce or who aren't contributing to their employer's plan yet, the best first step is simply to start contributing -- now. The money you invest the earliest will have the most time to grow, so it has the most value.Maintain and increase your salary deferrals to your 401(k) in good markets and bad, and you'll do wonders for your retirement security.
If your employer offers matching contributions, then start by saving at least enough to earn the full match. A 50% match equates to an instant return of 50%, and not a single Wall Street shot-caller can beat those kinds of gains year in and year out.
2. Save as much as you can
According to a Fidelity study, the average contribution rate among 401(k) participants with a $1 million balance was 16%, while the average contribution across all 401(k) investors surveyed was about 8%. Among the millionaire group, that 16% contribution rate translated to about $21,000 annually.
Continue Reading Below
Of course, these are people who are making six figures a year. But those who earn a more modest salary can also retire with $1 million if they make consistent contributions over the course of their careers. A 25-year-old who saves $405 per month (just under 10% of a $50,000 salary) will amass a nest egg of over $1 million in 40 years, assuming a 7% annual return.
Don't have that kind of time? Let's say you're 20 years from retirement and earning $75,000 at this point in your career. If you hone your budget to the point where you can save 20% of your salary, or $1,250 per month, then you'll have more than $650,000 in your 401(k) by the time you retire, assuming the same 7% returns.And if you get an annual cost-of-living raise -- say, 3% per year -- then you can rapidly accelerate your gains by investing that extra money. In this example, investing that raise every year would earn you an extra $170,000.
3. Accept the reality of risk
Nobody likes to see their 401(k) balance drop when the stock market goes down, but to be successful, 401(k) investors need to take investment risk commensurate with their time horizon and their risk tolerance. This should be reflected in your investment allocation. Sticking your balance in a money market account will keep you from losing money, but it also won't achieve the level of growth you will need to build a sufficient retirement nest egg. If nothing else, you will likely see your investments eroded by inflation over time.
The definition of a "risky" investment varies from investor to investor. Certainly, stocks have proven to be more risky than bonds or cash over time. In terms of choices that might be offered within a 401(k) plan, small-cap, international, and emerging-market stock funds are typically among the most risky.
4. Manage old 401(k) accounts
As we change jobs more frequently than past generations throughout our careers, it's important not to neglect our old 401(k) accounts when leaving a job. Even relatively small balances can add up over time if properly invested.
When you leave a job, you have four options for your old 401(k) plan:
- Leave the money in the old plan. This may be a good option if the plan is well managed and has low-cost, solid investment choices. Check whether there are minimum balance requirements before making this decision.
- Roll your old 401(k) balance over to your new employer's 401(k) if you're switching jobs and the plan allows this option. Again, you should focus on the quality of the investments offered and the cost of the plan. Note that money in the 401(k) plan of your current employer isn't subject to required minimum distributions unless you own more than 5% of the company.
- Roll your balance to an IRA. This can be a good choice in that an IRA allows you to choose from a wider array of investment choices than a 401(k) plan, and it may offer lower-cost options than your old plan. Before going this route, be sure that you're either comfortable managing this money or that you have a relationship with a trusted financial advisor who can help. Also make sure you adhere to the rules for doing a rollover so that you don't accidentally trigger an unwanted taxable distribution.
- Take a cash distribution. This will trigger taxable income, and if you're younger than 59-1/2 it could trigger a 10% penalty to boot. Not only is this expensive, but taking even small distributions early in your career can erode your long-term efforts to fund a comfortable retirement.
The bottom line
These four investing tips will go a long way toward helping you maximize the value of your 401(k) plan. You might be tempted to "set it and forget" when it comes to your 401(k), but this is a mistake. Because this is likely your main retirement savings vehicle, you should review it at least once per year and make adjustments as needed.
The article 4 401(k) Investing Tips That Could Earn You Thousands originally appeared on Fool.com.
Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
Copyright 1995 - 2016 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.