Last Updated on December 12, 2012 by Mike
For many young people, the professional world can be confusing for so many various reasons. For the first time in many young adults’ lives, they are living off of a salary that they work hard to earn and receiving benefits that may or may not make sense to them.
If you’re not too financially-savvy or are at all confused about some of the benefits that your company offers you, you’re not alone. The option for a 401(k) is offered by many major companies, but it can be difficult to understand. So if you’re a young professional, this article is for you, because we’re going to explain your 401(k) benefit and what it can mean to you and your future.
What the Heck Is It?
A typical response to the term “401(k)” is often, “Huh?” accompanied by a confused facial expression. To be exact, a 401(k) is a retirement savings plan that lets the worker defer tax payments on the money going into the savings plan until it is withdrawn.
A worker with a 401(k) plan selects a certain amount of money per paycheck to put into their retirement savings plan tax-free. Many companies offer a good assortment of investment options for their money – usually a combination of some stocks, bonds and money market investments. Other companies allow you the opportunity to purchase company stock with your savings.
The longer you stay with a company, the more access you will have to your savings account, and the more your employer will contribute, as well (most employers make contributions to employees’ 401(k)s). For example, you won’t have access to the funds that your employer contributed until you have been with the company for X amount of years, so as to safeguard the employer from having employees leave early and take advantage of the money that they have contributed to the account.
What Does it Mean For Me?
Even as a young professional, it’s important to start saving for retirement as soon as possible. The more you save early-on, the more comfortably you’ll be able to live during your retirement. One of the most popular options for employers is the 3% match – meaning if you invest 3% of your salary every year, your company will match that 3%. That’s free money for you when you retire, basically.
When it comes to 401(k) plans, you generally have 2 options. The traditional 401(k) plan is money that you invest into your account before tax is taken from your salary, and your taxable income decreases by however much you choose to invest into your plan. You are taxed upon withdrawal of the money, but you don’t have access to it until your retirement from your company (at age 55) or at age 59 1/2.
Your second option is a Roth account, which is money that you are taxed on first, as you would be with your normal salary, and is then contributed to your 401(k). Then you don’t have to pay any taxes when you withdraw the money, and the money is accessible at any time after 5 years of you having held the account.
Whichever plan you choose, it’s important to remember that saving early for retirement is a step that every young adult should take as soon as they begin a career with an employer who offers the benefit. It’s one that should be taken advantage of that too many young people tend to overlook.
Megan Willis is a freelance writer who does a lot of studying up on personal finance issues. She also loves technology and saw a report about NQ Mobile on Bloomberg recently that reminded her of her first career, which inspired her to write this article.
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