Putting money in a 401k is a smart tax-saving money move. The Government allows us to sock away up to $17,000 of our hard-earned pay and not pay income tax on it (up to $17,500 in 2013). The money in the account grows without making you pay taxes like a regular investment-type account would, you just have to pay taxes as you start to withdraw money out of the account at retirement.
In this audio lesson I use the example of a married couple, we’ll call them Joe and Suzy. To make it easy we pretend they have no kids, no other deductions and he is the bread-winner making $50,000 a year (paid every other Friday). This would put them in the 15% tax bracket (thru 2012).
Americans that don’t save into a 401k or IRA
Joe would pay $7,500 in income taxes, leaving them $42,500 and no 401k savings.
The American that saves just 3% of their income in a 401k
Each paycheck Joe takes $57.69 and has it automatically put into the 401k account. This reduces his take-home pay, but not by as much as you would think. Reducing their take-home pay to put money into savings means they have $41,225 to live off of.
Joe may have put $57.69 into the 401k every-other week but he only reduced his take-home pay by $49.03. That is because the money that is going into the 401k is pre-taxed. They enjoy lower taxes while putting money into savings.
The American that gets a match at work
If Joe’s employer matches his 401k contributions then he still enjoys saving on taxes. Instead of saving $1,500 into his retirement plan he will have $3,000 by the end of the year. That’s a deal!
Could you live on $100 less a month in order to save $3,000 a year? Talk with your employer’s benefits department to see if they have a 401k and take advantage of it! Your employer wants you to and it is a smart money move.
If you are just getting started
There are other things to take into account when saving for retirement. What if you don’t have a 401k at work or they don’t offer a match? You have other options to consider.