Why Americans Choose a 401k for Investing

A lot of American workers choose to invest in a 401(k) as one of the major ways to collect savings for their retirement. Such an investment is a very valuable financial instrument, thanks to its automated contributions and tax-advantaged status. Investing in a 401k early is a great way to prepare for retirement. Though it is relatively easy to choose your company’s 401(k) plan, it is reported that only a third of Americans understand how it works. If you have no idea yet how to invest through your 401(k), here is about 401k investment strategy by age.

What is a 401(k)?

Not knowing about what is a 401k can prevent you from saving and investing effectively. So, it is better to understand what is it first. A 401(k) is an investment account for a retirement offered by companies where you work. Such an investment is known as a tax-advantaged investment account. Because the money you contribute to it every year, which is usually a percentage of each salary, lowers your taxable income. That tax break aims to encourage you to save for retirement.

Adjusting Investments by Age

Just like an Individual Retirement Account (IRA) or savings accounts, a 401(k) is also a kind of financial account. Once you have contributed your money to your 401(k) account, then you have to invest the money in the bond or stock funds. Otherwise, it will remain as cash. When you register for a 401(k) through your employer, usually, separate financial firms will manage it.

These financial firms are the company where you will receive important disclosures and information from regarding your account and investment. If you leave the company where you work, in most cases, your 401(k) will stay at the financial firm that originally manages it. But you can opt for rolling it over to a new company. You can start to withdraw your money without penalty at 59 and a half, in most cases.

If you do so before that age, you will be charged with a 10 percent early withdrawal penalty. Moreover, you must also pay income taxes on the distributions. You can also apply for a 401(k) loan. But you need to repay it along with the interest.

Determine How Much You Can Contribute

The next 401k investment strategy by age is determining how much money you can contribute to your account. Employees under 50 years old can contribute up to $22,500 to a 401(k) last year. But how much money you can contribute to your 401(k) highly depends on your income, financial goals, and debt level. Talk to your financial advisor to determine the percentage of your income you should contribute to your employer-sponsored 401k plan.

For example,  you start investing in a 401(k) at 27 years old and contribute $2,000 every year until you are 65 years old. Assuming a 10 percent rate of return, then you would have $805,185 in your 401(k) account.