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What are the Benefits of a 401k?

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  • Written By: B. Miller
  • Edited By: Andrew Jones
  • Last Modified Date: 29 January 2020
  • Copyright Protected:
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Aside from the obvious benefits of saving for retirement through a 401k, there are numerous other benefits that can be gained over the short and long term. One of the most important benefits of this type of retirement plan is the benefit it offers to income taxes; because contributions to this type of plan are made with pre-tax dollars, this reduces taxable income and taxes paid over the year. In addition, many employers offer matching contributions to a 401k, which is essentially free money, and can really help the account to grow over time.

In a 401k, contributions and interest gains are able to increase tax free until they are withdrawn and used. There are limitations on this type of retirement plan, as with any retirement plan; for example, withdrawals may not be made until the account holder reaches a certain age. If a withdrawal is made too early, taxes and penalties will be paid. It is possible, however, to take a loan from this type of retirement plan penalty-free as long as the funds are repaid in the specified amount of time, which is another benefit of these plans. As mentioned above, contributions to a 401k plan are typically withdrawn from a paycheck from pretax dollars; this reduces income taxes paid over the year because it reduces taxable income.

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Another one of the most common benefits to a 401k plan is that many employers will offer matching contributions; some will only match to a certain percentage, while others will match and then deposit an additional amount into the account. Any type of matching is essentially free money, and should always be taken advantage of if one's company offers this excellent benefit. This type of retirement plan is not locked into one company, either; individuals who change jobs typically have the option to roll over the account into a new account at the new company, or to roll over the funds into an individual retirement account (IRA), both of which are penalty-free options.

Many companies also allow a great deal of customization for the type of investments made in a 401k plan. Younger people just starting out saving for retirement may choose to make riskier investments, such as in stocks, whereas older people who have less time to save for retirement may choose safer investments such as bonds. This is a simplistic example, and not all companies offer this type of customization, but it is something to keep in mind.

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