Kristine
Although most people recognize that saving money for retirement is essential to their long-term goals, very few people know how to save for retirement. With all kinds of plans available, from IRAs to 403(b)s to Roth 401(k)s, it’s challenging to fully understand which options are available to you and which plans will offer you the greatest benefits in your later years.
Since we believe everyone deserves to have a long, enjoyable retirement, this brief introduction will provide you with a basic rundown of the most common types of retirement plans. Whether you’re just entering the workforce or are hoping to retire in a few years, this guideline can help you figure out your next steps.
Employer-Sponsored Retirement Plans
Employer-sponsored plans, which include 401(k)s and 403(b)s, are the most common type of retirement plans in today’s workplaces. Also known as “defined contribution plans,” these options are set up by the employer, allowing each employee to contribute to an individual account under the business’s plan. Usually, these employee contributions are automatically taken from the individual’s payroll and deposited directly into their 401(k) or 403(b). Some workplaces also have “company match” policies, in which the business will contribute funds to your account when you add certain amounts. For example, some employers might match contributions dollar-for-dollar, or 50 cents to a dollar, up to a predetermined amount.
The difference between a 401(k) and a 403(b) plan is that the latter is most often offered by tax-exempt organizations and public schools, whereas the 401(k) may be offered in workplaces of all types and sizes. They are both structured similarly, and both have an employee contribution limit of $19,500 in 2021 (or $26,000 if you’re over 50 years old).
A final option for defined contribution plans may include a Roth version, which means that you contribute money after taxes to your account, but then take out the funds tax-free once you retire. The Roth election makes sense if you expect your tax rate to be higher at retirement than it is at the time you’re making the contribution,” explains David Littell, who is a retirement planning expert and professor emeritus of taxation at The American College of Financial Services.
IRAs (Independent Retirement Accounts)
An independent retirement account, or IRA, can be opened by anyone, whether or not their employer offers retirement plans. Financially-savvy individuals will often open an IRA and a 401(k) and try to contribute the maximum amount each year in order to obtain the most benefits. For instance, an employee might max out their 401(k) contribution due to company match policies, and then contribute additional funds to their IRAs.
The government created IRAs in an effort to help Americans save money for retirement, allowing individuals to contribute up to $6,000 per year (or $7,000 per year for those 50 or older). “Because of the tax advantages of IRAs, the government is essentially giving you a helping hand – and a powerful incentive – to save for retirement,” says Greg McBride, a chief financial analyst at Bankrate.
Like defined-contribution plans, you may choose a traditional IRA or a Roth IRA. The traditional IRA allows you to deposit money into your account pre-tax, but then you will have to pay taxes on the distribution when you withdraw the money. A Roth IRA requires you to deposit money after taxes, but the money grows tax-free in the account, and you can withdraw the funds tax-free when you retire.
Social Security Retirement Benefits
The Social Security system is designed to replace a portion of an individual’s pre-retirement income once they choose to stop working. The exact amount of money each person receives varies depending on their previous income, how many years they worked, and when they decided to retire. According to the Social Security Administration, this means that most retirement beneficiaries receive approximately 40% of their pre-retirement income through the program.
To determine if you’re eligible for Social Security benefits (or will be), you must earn a certain number of “credits” by working and paying Social Security taxes before retirement. 40 credits are required in order to receive benefits, and these credits can typically be acquired through 10 years of employment.
Since Social Security is so highly individualized, it can be beneficial to estimate how much you can expect to receive from the program after you retire. The following calculators, obtained from the Social Security Administration’s website, can be useful tools as you begin planning how you will reach your retirement goals:
- Retirement Estimator. This tool will estimate your monthly benefits based on your Social Security earnings record.
- Retirement Age Calculator. Here, you can discover your full retirement age and what may happen to your benefits if you retire prematurely.
- Detailed Calculator. This highly precise calculator must be installed on your computer, but it will provide you with an estimate of your retirement, disability, and survivors benefits.
- Earnings Test Calculator. If you’re currently working and you’re eligible for retirement, this calculator can show you how your earnings might impact later Social Security benefits.
- Benefits for Spouses Calculator. If you’re curious about retiring early, this tool will calculate how your spouse’s benefits may change as a result.
