For American workers, the 401(k) is the predominant tool for building retirement savings. Here’s how to make the most of it.
1. Know how your plan works. Get the SPD or Summary Plan Description, which includes important information about eligibility, vesting, contributions including the match, and plan features, such as loan and Roth provisions.
2. Go for the free money. Always get the employer match. Make the largest contribution your budget comfortably allows, and contribute enough to get the maximum match your employer provides.
3. Stay in. Once you have determined the investment options that are right for you, don’t let market events sway you into running to cash. Timing the market never works. It requires clairvoyance on when to get out and when to get in.
4. Use the automatic rebalance feature or rebalance on your own at least twice a year. Rebalancing returns your 401(k) to its original asset allocation, adding money to investments that have declined and trimming those that have outperformed. It’s the original buy low, sell high strategy.
5. Barring the most extreme emergency, never take a hardship withdrawal, even if your plan allows it. Hardship withdrawals are subject to income tax. A mandatory 20 percent withholding will be taken out of the check and you may be subject to the 10 percent penalty. It’s the option of last recourse.
6. Do not borrow against your 401(k) even if your plan allows it. It may seem attractive, borrowing from yourself, but there can be significant administrative fees, and your money is out of the market for that period of time.
7. Consider the Roth 401(k) option if it is provided in your plan. You must evaluate your current and future tax situation, but the Roth option allows your contributions to grow completely tax free, not just tax deferred.
8. When you change employers (and you will) do not leave your 401(k) behind. You may forget to apprise your former employer of address changes and your balance will become an orphan. Roll it to an IRA that you or your financial advisor manages.