Common Mistakes to Avoid With Your 401(k)

When used correctly, a 401(k) account is one of the most powerful retirement savings tools available. However, many individuals unknowingly make mistakes that can cost them thousands of dollars over time. In this article, we highlight three common errors people make with their 401(k) accounts and offer solutions to help you maximize your retirement savings.

Mistake #1: Not Taking Full Advantage of Employer Match

Arguably the most significant benefit of a 401(k) is the employer match. Often referred to as ‘free money,’ an employer match is typically available to individuals who contribute a certain percentage of their salary to their 401(k). Despite this, many people fail to meet the requirement, leaving money on the table. For example, if your employer offers a 50% match up to 6% of your salary and you only contribute 3%, you are missing out on additional retirement funds. Over time, these missed contributions can add up, especially with compounding growth.

Solution:

  1. Review Your Employer’s Match Policy: Check your plan documents or speak with your plan administrator to understand the specifics of your employer’s match program.
  2. Adjust Your Contributions: Attempt to contribute at least enough to receive the full match from your employer.
  3. Setup Automatic Increases: Increasing your contribution may not be feasible now. To ease into your new contribution amount, consider setting up automatic annual contribution increases.

Mistake #2: Poor Investment Choices

Another common mistake is either being too aggressive or too conservative with your 401(k) investments. Some individuals prefer to keep their funds in risk-free assets, such as a money market account, missing out on possible market returns. Others might put everything in a more aggressive fund, limiting their downside protection.

Finding a balance here is essential. Being overly conservative may result in returns that fail to outpace inflation, leaving you with less purchasing power in retirement. On the other hand, being overly aggressive exposes your savings to significant market volatility, which can be especially detrimental as you approach retirement.

Solution:

  1. Assess Your Risk Tolerance: Speak with a financial professional to evaluate your comfort level with risk.
  2. Diversify Your Portfolio: Invest across various asset classes to balance your portfolio.
  3. Use Target-Date Funds: These funds automatically adjust the allocation of assets based on your expected retirement date.

Mistake #3: Withdrawing Funds Too Soon

It can be tempting to withdraw cash from your 401(k) for emergencies, major purchases, or during a job transition. While the money is yours, withdrawing funds prematurely can have long-term consequences. If you withdraw before age 59 ½, you typically face a 10% early withdrawal penalty along with income taxes on the amount withdrawn.

Even loans can derail your retirement goals. If you’re unable to repay the loan within a certain period of time, it’s treated as a withdrawal and taxed accordingly. These funds also miss out on potential future growth, reducing your overall retirement savings.

Solution:

  1. Build an Emergency Fund: Maintain a separate savings account with three to six months’ worth of living expenses to avoid tapping into your 401(k).
  2. Think Twice Before Borrowing: If borrowing is unavoidable, ensure you understand the repayment terms and have a clear plan to repay the loan quickly.
  3. Roll Over When Changing Jobs: Instead of withdrawing your balance, roll over your 401(k) into your new employer’s plan or an IRA to preserve your savings and continue growth of your retirement funds.

Conclusion

Avoiding these common 401(k) mistakes can dramatically improve your financial outlook in retirement. By contributing enough to secure your employer’s match, making informed investment choices, and avoiding early withdrawals, you can make the most of this powerful retirement savings vehicle. Remember, consistent actions taken today can lead to a financially secure tomorrow.

 

Presented by Jack Russell

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