If your employer offers a 401(k) plan, you might be tempted to contribute as much as possible. A traditional 401(k) allows you to shield more of your income from taxes as you increase your contributions, up to the annual IRS limit.
Moreover, many 401(k) plans include an employer match. By contributing enough, you can secure additional funds from your employer, essentially free money.
It’s generally wise to contribute to your 401(k) at least up to the amount your employer is willing to match. For instance, if your employer matches up to $3,000, aim to contribute at least that much to the plan.
However, fully maxing out your 401(k) might not be the best strategy. This year, that means contributing $23,000 if you’re under 50, or $30,500 if you’re 50 or older. Another retirement savings option might better suit your needs.
An IRA may offer more investment options and potentially lower fees
A significant limitation of 401(k) plans is the lack of options for investing in individual stocks, typically restricting you to a selection of funds. These include target-date funds for passive investors and mutual or index funds.
This limitation poses two challenges. First, the inability to customize your retirement portfolio could hinder your savings’ growth. Second, target-date and mutual funds often come with high fees, known as expense ratios, which can diminish your 401(k)’s returns. While opting for lower-cost index funds can mitigate this, your plan’s selection might not include a desirable option.
In contrast, IRAs provide a wider array of investment choices. You can create a personalized stock portfolio based on your research, potentially achieving returns that surpass market averages and increasing your retirement wealth. Additionally, using an IRA might help you reduce unwanted investment fees.
An HSA might offer additional tax advantages
While a 401(k) allows you to defer taxes on contributions (assuming it’s a traditional, not a Roth 401(k)), an HSA provides that benefit along with two others. HSA funds can grow tax-free, and withdrawals for qualified medical expenses aren’t taxed.
Although an HSA isn’t exclusively a retirement savings tool, you can withdraw from it at any age to cover healthcare costs. Since there’s no requirement to withdraw funds by a certain age, you can save your HSA balance for retirement when medical expenses may be higher.
Once you reach 65, you can withdraw HSA funds for non-medical purposes without incurring a penalty, effectively using it as a supplemental savings plan. However, non-medical withdrawals are taxable after age 65. To ensure tax-free withdrawals, use HSA funds for eligible healthcare expenses.
There’s no harm in contributing enough to your 401(k) to take advantage of an employer match. However, before fully maxing out your 401(k), consider allocating some savings to an IRA or HSA—or both.
The $22,924 Social Security bonus that most retirees overlook
If you’re like many Americans, you might be behind on your retirement savings. However, some lesser-known “Social Security secrets” could significantly boost your retirement income. For instance, a simple strategy might increase your annual income by $22,924. By learning how to maximize your Social Security benefits, you can retire with greater confidence and peace of mind. Click here to explore these strategies further.
Discover the “Social Security secrets” ›
