 What
You Need to Know
If you're like most people, you have questions about your 401k
retirement plan. You might be wondering how a 401k works, exactly what a
401k is, or how you can revive the dwindling balance in your 401k plan.
How does a 401K plan work?
If your company offers a 401k retirement plan, you are given the option of
selecting the funds you choose to invest in from a list of funds provided in the
401k plan.
Your company will provide you with a list of the funds they use for their
plan and give you the opportunity to decide which you want to invest in and the
percentage to invest. Your employee contribution will automatically be deducted
from your pay check before taxes. Each employee can contribute up to a certain
percentage of their pay into a 401k plan and some employers will match a
percentage of your contributions. Your contributions along with any matched
contributions are then invested into your selected funds. These funds will grow
without being taxed and can be withdrawn when you reach the age 59 Ѕ. At this
time, you must pay income tax on the withdrawn funds. There are ways you can
withdraw your funds before reaching the age 59 Ѕ but these withdrawals usually
require a penalty along with payment of taxes.
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What is a 401k plan?
A 401k plan is an employer sponsored retirement plan and is grouped into two
categories-defined benefit and defined contribution. With a defined benefit
plan, the employer promises to pay a defined amount to retirees who meet certain
eligibility criteria. With a defined contribution plan, the plan defines the
contributions that an employer can make and not the benefit that the employee
will receive at retirement.
A defined benefit plan usually links the benefit to the amount of service and is
based on the final average salary. Employees can usually predict the monthly
retirement income they might receive with this type of plan and might also be
given the choice of a lump-sum benefit at retirement.
A defined contribution plan is not a defined benefit so the employee cannot
predict a monthly retirement income. If an employee leaves the company, they
usually receive the proceeds in a current or deferred lump sum or annuity.
What can I do to repair my declining 401k balance?
The first thing you might do is to look closely at how you are investing. If
you're investing heavily in your employer's company stock, you should reduce
this amount and diversify your investments. Adjust your contributions to make
the most of the new contribution limits. Each year you can contribute the
maximum tax-deferred amount to your 401k plan. This year, that amount is $11,000
plus an additional $1000 if you're age 50 or older. You can also make
additional, nontax-deferred contributions of the lesser of $35,000 or 25% of
your yearly income. Your age and your company's plan policy will be deciding
factors in your strategy in repairing your 401k balance. Younger persons will
have longer to rebuild their retirement plan than those who are 50 or over.
How should a 401k be balanced?
Money magazine has an excellent set of charts for 401k plan allocations in its
September Special Report. The suggested allocations at three life stages are:
Aggressive--for those with 35 or more years until retirement
50%--large cap stocks
15%--mid cap stocks
15%--bonds
10%--small cap stocks
10%--international stocks
Moderate--for those with 20 years until retirement
35%--large cap stocks
35%--bonds
10%--mid cap stocks
10%--small cap stocks
10%--international stocks
Conservative--for those within 10 years of retirement
40%--bonds
30%--large cap stocks
10%--mid cap stocks
10%--international stocks
10%--cash
401k plans are very popular and an excellent way to plan for your
retirement. As with any other investment, you do need to carefully watch your
portfolio and make wise investment choices.
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