When your employer informs you that you’re eligible for a 401k or another type of employer-sponsored retirement plan, you may jump at the opportunity. After all, according to data from the Bureau of Labor Statistics, only 56% of employers currently offer a 401k plan to employees.
But depending on your financial situation, the tax benefits you want to take advantage of, and your plan for retirement, you might want weigh out your other retirement savings options before signing onto your employer’s plan.
In this blog post, we’ll discuss the different kinds of retirement savings options and how they work so that you choose the best solution for your situation.
Types of retirement plans
- 401k Plans: 401k plans are offered by employers as a perk for their staff. A 401k plan allows you to invest a portion of your paycheck in your retirement account before taxes. This contribution can help lower your tax liability for the year which is one of the reasons they’re such an attractive benefit for job searchers. Additionally, some employers offer a match program wherein the employer would contribute a certain percentage of the employee’s 401k contributions.
- IRAs: If your employer doesn’t offer a 401k or you’ve fulfilled your maximum contributions, you may consider investing in an IRA account. Like 401k plans, IRAs also offer tax benefits. Another benefit of IRAs is that individuals can use the contributions from their account to invest in stocks, bonds, and other investments that may increase the value of your IRA account balance. When you contribute to an IRA (the max for 2019 is $6,000), you can deduct this amount on your annual tax return which helps lower your overall tax liability, however, you’ll be liable for taxes on your withdrawals later.
- Roth IRAs: Unlike IRAs, Roth IRA contributions are taxed, but the benefit is they won’t be taxed again when you withdraw from your account. In addition, with a Roth IRA, you can withdraw money before you’re at retirement age without penalty, unlike 401k plans.
- Roth 401k Plans: A Roth 401k is a blend of the Roth IRA and 401k rules. This plan is typically offered by employers and contributions are made from your paycheck after taxes. Once you’ve contributed those dollars are not taxed again so long as you continue to use the plan for at least five years. However, employees should keep in mind the limits on Roth 401k contributions which are determined by your Modified Adjusted Gross Income (MAGI).
- SIMPLE IRA: SIMPLE IRAs are similar to 401k plans, but they’re designed for small businesses. Contributions to SIMPLE IRA plans are made with pre-tax dollars from participating employees’ paychecks and aren’t taxed until the money is withdrawn. Early withdrawals with SIMPLE IRAs can incur major penalty fees.
- SEP IRA: If you’re self-employed, a SEP IRA may be a good solution for you to save for retirement. SEP IRA contributions are fully tax-deductible which can help lessen your taxable income. There are maximum contributions to be aware of though. For 2019, the limit was the lesser of: $56,000 or 25% of income.
Now that you know the different types of retirement plans, how they work, and what kind of tax benefits they offer, you’ll be more prepared to identify the retirement savings solution that best fits your financial goals and lifestyle.