401(k) Tips for Recent College Grads

The thought of retirement may seem like the distant future to young grads, but socking away even a small amount into savings as a young adult can drastically impact the quality of post-work life.

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A recent Merrill Edge report

What’s more, Gen Y, (ages 18-34), is increasingly optimistic about their retirement savings potential, with those surveyed stating they would save on average nearly $2.5 million for their retirement compared to those ages 51-64, who anticipate saving just $260,000.

For grads looking for a place to start, contributing toward a 401(k) savings plan can be an easy way to reach long-term retirement goals, says Kevin Watt, vice president of Security Benefit’s Defined Contribution Group

“A 401(k) makes it easy for anyone to save, especially recent graduates with little to no investment experience, and many plans offer model portfolios or target-date funds that make it simple to save in investments designed for individual time horizons,” he says.  

Investing in a 401(k) plan allows for significant tax benefits, with the funds growing tax-deferred until retirement.

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“The tax benefits may not be as important [now] but they become more important as they go up the career ladder,” says Stuart Robertson, president of ShareBuilder 401k

Tip No. 1: Consult Trusted Sources

Whether grads participate in their employer plan or an independent plan, finding the right resources and/or a trusted financial advisor can make complex investment decisions easier to understand, says Kathleen Connelly, an executive vice president with Ascensus

“Depending on your plan's lineup, you may have the benefit of professionally-managed portfolios which may be either age or risk based--some plans offer either target date funds, or managed portfolios,” she says. “In these plans, you can simply choose to invest in an allocation chosen by a professional.”

For grads unsure how to allocate their investments, find out if the plan offers an aggressive or moderate risk-based option, suggests Matt Sommer, director and senior retirement specialist with Janus Capital Group

“These portfolios are ideal for participants with many years until retirement and do not want to select their own investments,” he says. “Many plans offer a balanced fund that can also be a good long-term choice.”

Tip No. 2: Take Advantage of Employer Matches

Grads offered an employer contribution towards their company 401(k) plan should take advantage of this “free money” as soon as possible.

“Typically to obtain the corporate match you will need to save about 5%, which has very little impact on the take home pay,” says John Bucsek, managing director with MetLife Solutions Group

Choosing to have funds automatically deducted from their paycheck into a 401(k) can deter grads from having to manually move it and potentially spend it elsewhere, says Andrew Meadows, consumer and brand ambassador at The Online 401(k)

“When you ‘set it and forget it,’ that money works for you with no work from you--it's likely you won't even miss that money,” he says.  

Tip No. 3: Understand Associated Fees

Fees may vary by plan or investment and it’s important for recent graduates to understand that every investment comes with some kind of fee, such as 401(k) plans, IRA plans or individual stock purchases, says Watt.

New regulations require employers to provide plan participants with detailed information about any fees. Grads should understand the fees charged to the plan and that like all benefits such as medical coverage, they may share in the cost of the 401(k), explains Connelly.

“Ask questions of your employer, financial advisor and/or record keeper as all of these parties should be prepared to share with you what the costs are,” she says. “The money management, advisor, and administration features will have an expense and particular services or features that make these accounts easily accessible may impact the costs.”

Tip No. 4: Consider consequences of early withdrawal

Unless absolutely necessary, the experts strongly caution against withdrawing from a 401(k) plan before age 59 ½.

“Anytime grads take money out of a 401(k), they face taxes on the withdrawn amount at their normal income tax rates, as well as paying the IRS an early withdrawal penalty of 10%,” says Watt. “It’s generally not worth it for savers to plunder their 401(k) if they need short-term cash.”

Although most plans allow participants to take a loan and many have early withdrawal or hardship provisions, these features are meant to be for need--grads should strongly consider the impact of using the money before retirement and setting themselves back, warns Connelly.

“Early withdrawals undermine that goal you set at the time of entry,” she says. “Before you join the plan, know the provisions in your plan for accessing your balances and then carefully consider all of these options and others outside the plan before making decisions should the need arise later.”