There’s no doubt that you need to save your money for retirement, but you may wonder whether it’s better to save your money in a 401k plan or in a Individual Retirement Account. Each type of savings plan has different advantages and disadvantages. The key is to think about what’s important to you and invest accordingly.
One of the biggest differences between your investment choices is when you’ll be taxed on the money. In a 401k or a traditional IRA, the money that you contribute is pretax dollars, meaning you don’t yet spend taxes on the money. You will only have to pay taxes when you withdraw the money. In a Roth IRA, you are contributing money that you have already paid taxes on, so you won’t have to pay taxes when you withdraw the money.
There are limits to how much money you can contribute to your investment accounts each year. Though the limits may vary by year, the amount that you can contribute to a 401k plan is always higher than the amount that you can contribute to IRAs.
In a 401k plan, you often have only a few investment choices to choose from, based simply on your investing goals. Investment firms will list your choices as “safer” or “high risk,” for example, and you choose your investment based on the amount of risk that you are willing to take. In an IRA, however, you can usually be more selective about your investments. For example, you may be able to invest in particular industries in addition to basing your decision on a risk profile.
If a 401k is a benefit offered by your employer, you often have the benefit of employer matching. In this, your employer will contribute a certain percentage of the amount of money that you invest in your 401k as well. For example, if you invest $1,000 in your 401k and your company has a 5 percent matching policy, your company will add $50 to your account. When it does this, there is usually a “vesting period,” which means that the money does not officially become yours until you have worked for the company after a certain period of time.
An IRA plan is typically self-managed, which means that you can easily change your investments if you don’t like the way that they are performing. In your 401k, you may only be able to change your investments at certain times of the year.
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