Retirement Plans 101: 401ks, IRAs and More

Retirement Plans 101: 401ks, IRAs and More

For many employees, retirement seems like a faraway goal. Even if you are not retiring for another 10 or 20 years, it is a good idea to prepare for your retirement. 

One of the biggest benefits of planning your retirement is you may be able to set up a plan that allows you to retire earlier. Some jobs include retirement plans as part of your employee benefits. 

Traditionally, many people received retirement income through pensions, which are not as common in today’s world. However, Social Security retirement plans may be able to help, though these payments alone may not be enough to cover your retirement costs.

There are other retirement options available through employers, but these typically require you to pay into, with your employer matching your contributions. These are known as defined contribution plans, with the most common example being 401ks. 

Other retirement options, such as IRA funds, are separate from your employers. While many options appear similar, there are typically different tax rates which can have a significant impact on your retirement plans.

Identity your Retirement Goals

There is no such thing as the perfect retirement plan. Each retirement plan has different advantages and disadvantages. 

The plan you choose is largely dependent on your retirement goals. Before you pick a plan, take some time to think about what you want your retirement to look like, as well as when you want to retire.

As of writing, the average retirement age is 65. This is because 65 is when the majority of Social Security benefits begin. However, depending on your retirement goals, you may be able to pick an earlier retirement age.

The first consideration for your retirement is what type of lifestyle you want to live. If you are planning to travel around the world when you retire, you will need more money for your travel expenses. You must also consider whether you want to keep your home or plan on downsizing. 

Another important consideration is your health. This may be hard to plan for if you are creating an early retirement plan, but it is advised to set aside some money for potential health issues, as seniors are more at risk the older they become.

 You also want to plan ahead and decide what you want to leave behind for your family.

If the idea of planning for retirement seems overwhelming, there are several resources to make the process easier. Speaking with a financial advisor not only helps you identify your spending costs, but he or she can also offer advice on which retirement plan will best accomplish your goals. 

There are also online calculators available that use a variety of questions to create a rough estimate of what you need to save to reach your retirement goals.

Defined Contribution Plans

Defined contribution plans have become one of the most common retirement options. Many employers that previously offered pensions now offer a defined contribution plan, typically a variant of a 401k. 

With a defined contribution plan, your employer takes a portion of your paycheck each year and puts it into a retirement plan. How much you can put into your plan each year depends on your age. 

As of writing, the maximum amount you can contribute if you are 50 years of age or older is $27,000.

There are several variants of defined contribution plans available. The standard is a basic 401k plan. With a standard 401k, the portion of your paycheck that goes into your retirement account uses pre-tax wages. 

This means you do not have to count anything deposited into the plan as part of your yearly income, which can reduce how much you pay in taxes each year. 

The funds in your plan will grow with interest, which is also not taxed. Once you withdraw your funds, you must then count the money you withdraw as taxable income.

401k plans have a set period where you can withdraw your funds. Many plans allow you to access your funds when you are 59 ½ years of age or older. Many plans will allow you to withdraw your funds earlier, but there is typically a fee you must pay. Some employers offer additional benefits, such as matching your contributions to a certain amount.

There are several variants of 401k plan, such as a Roth 401k. With a Roth account, you pay taxes on any income placed into your account, but if you withdraw after you retire, you do not have to pay any additional taxes. 

There are also plans for specific entities, such as 403b plans for nonprofit organizations, churches and public-school teachers. Government employees use 457b plans instead.

IRA Plans

The next popular retirement option is IRAs. There are a few similarities with 401k plans. 

Each year, there is a set limit on how much you contribute to your IRA plan, determined by your age. As of writing, you can contribute $6,000 if you are under the age of 50, or $7,000 if you are 50 years of age or older. There are also different variations of IRAs available with different taxation rules.

With a traditional IRA plan, your contributed income counts as pre-tax dollars, so you do not have to report any of the money you deposit. Once you withdraw your funds, you must report it as part of your yearly income. 

There are early withdrawal options, but the penalties are much stricter compared to 401ks. A Roth variant also exists for IRA plans. Like with a 401k, it requires you to count any money put towards your plan as part of your yearly income, but you can freely withdraw it without paying taxes once you are ready to retire.

Another option is a rollover IRA. This is a special account that allows you to take your funds from another retirement account and apply it to your IRA. 

The amount you transfer does not count towards your yearly limit, but you may be required to pay taxes on the amount. This largely depends on the type of account you are transferring from.

Pension Payments

Pensions are not as common as in previous years, but some employers still offer them as a retirement option. Pensions are one of the simplest retirement plans, providing you a fixed amount of income each month. 

This has become less sustainable for companies, as they may end up making payments for 20 to 30 years for each retiree. How much you receive each month is determined by your previous working wages and how long you were with the company.

By Admin