For young people, I heavily push the Roth IRA because this money grows tax free. I tell my students that they need to invest $500 a month in a Roth IRA, buying a S&P500 index fund for 40 years (ideally age 22-62) which would make them $2,655,555.33. In a Roth IRA, this is all tax free!!! So for young people that don´t have access to a 401K, you can still fund your retirement, especially if you start investing early! Remember, if you make over $138,000 per year or are married and your household makes over $218,000 per year, you cannot add new money to a Roth IRA.
Now that we reviewed the Roth IRA option, let´s look at the benefits of using a 401K or 403b (nonprofit version) for your retirement investments:
1. Invest more. In 2023, you can invest $22,500 per year in your 401K account, vs. $6,500 in a Roth IRA. If you are starting your retirement savings later than 22 years old, you will need to invest more than $500 per month. The 401K is a great option to invest significantly more money for retirement.
2. Reduce your current taxes. Any money invested in your 401K will reduce your current tax bill. If you $70,000 this year and put $10,000 into your 401K, you will be taxed on $60,000 of your earnings, not $70,000.
3. Automation. Your 401K contribution will be deducted from your salary before you get your paycheck. This is helpful because you do not have to worry about transferring the money.
4. Cost you less to invest more $. Since the money contributed to your 401K is pretax dollars, you can get more money invested. For example, I invest $1,000/mo in my 403b (nonprofit version of 401K) yet it reduces my paycheck by $653.02 a month, not $1,000. This is the difference between pretax and after tax dollars. So cool! If I wanted to invest $1,000 a month into an individual investment account, it would cost me $1,000 from my paycheck but by putting that money into my 403b it reduces my paycheck by $653.02 and yet I still get $1,000 each month!
5. Since all the money invested in your 401k is money that has never paid taxes, you will owe taxes when you start withdrawing money in retirement at age 59½.
6. If you don´t know how to sign up for your company´s 401K, ask your Human Resource department for help.
7. Some workplaces let you choose between numerous 401K companies (i.e. Axa, Vanguard, American Funds, etc). If you have Vanguard as a 401K option, it is your best choice as they have the lowest fees.
Disclaimer: I am an educator, not your personal financial advisor. Please make sure to do your own research before moving forward with any actions discussed in this newsletter.
Know that all investments involve some form of risk and there is no guarantee that you will be successful in making, saving, or investing money; nor is there any guarantee that you won’t experience any loss when investing. Past performance does not guarantee future performance. Always remember to make smart decisions and do your own research!
