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Retirement... Am I doing it Right?

401K... IRA... Roth... SEP IRA ? So many acronyms and options retirement can be a daunting and confusing, but there's hope.

 

Saving for retirement is really not as complicated as the world has made it seem, it just a matter of taking the time to understand a few key concepts. 

This is is not a glossary of the types of accounts, rather the key concepts about retirement that everyone should know.

This is your $: know your Log-in   

This is your money, right now, no one else's. So let's make sure that you are in control of it. 

 

Know your log-in information and familiarize yourself with the site and online resources. 

 

In the process of setting up your account (either through your employer or yourself), you will determine the percentage of your paycheck that you would like automatically placed into your retirement account. Make sure to check and see if your employer has automatically set up an account for you, as it may be the case that they haven't. Many employers provide retirement accounts but don't automatically set them up for employees, so if this is the case, you may have been missing out on savings, compounding interest, free money, and important retirement savings that can negatively affect your retirement account. For example, one of my clients had been working for a home products retailer for over six months that provides a healthy retirement plan. When she finally went to log into her account for the first time, she found that the balance was $0 and the account had not yet been set up yet. So unfortunately, this is an example of an employer not properly educating employees on their retirement options for their own corporate greed.

Understanding retirement is of upmost importance, so make sure to take control of your money as soon as possible. There is no reason to wait.

Contribute

Ideally, you are maxing out your retirement account each year. What does maxing out really mean? That means for whatever type of retirement account you have, you are putting in the maximum amount each year. For example: for a 401(k) the maximum is $19,000/ year and for a Roth the maximum contribution is $5,500/ year. This should be the goal. Do not panic if you are not there yet, but this should always be kept in the back of your head for a future retirement savings goal. Do not max out your retirement at the expense of your life and debts (credit card, loans, any other commercial debt). If you are going into debt because so much of your money is going to retirement, that is actually putting your at a disadvantage overall. So it's a balance of maximizing your retirement contributions without feeling stressed about money and still being able to fund other savings plans.  

Free money

Most companies offer an employer sponsored retirement or "401(k)". It will most likely have a matching program. This means that up to a certain amount, your company will "match" money you put in to your retirement account. Literally free money. So don't pass up on these opportunities. Make sure that you read through and understand your employer's policy of the sponsored retirement account and matching policy. 

Talk to HR

If you are having trouble understanding your company policy (because they like to make it complicated), talk to an HR person. Their job is to explain this to you, so use them as a resource. HR in this case can be your friend and help make more money. I cannot stress enough: do this now, not later. The sooner your start taking control of your retirement, the better off you will be in the long term.

Let's break it down

There are various types of retirement accounts that can be bucketed in two ways: 

  1. Tax the money Later 

  2. Tax the money Now

Tax Later?

Taxes are scary. But when it come to retirement, its pretty simple - we are always going to end up paying taxes, its just a matter of if we pay them now or later. For tax later accounts, this just means that the money you are putting into your retirement account has not yet been taxed, also called "tax deferred". Meaning the money that is taken out of your paycheck is from your pre-tax earnings and you will pay the taxes when you start using your money in during retirement.

Tax now?

Is the opposite of the above: you have already paid taxes on the money you are putting into your retirement. Meaning the amount you contributed to your retirement is taken out of your paycheck after taxes. If you pay taxes on your retirement contributions now, that means you don't have to pay taxes later when you are actually retired.

Why does this matter?

Two reasons: tax bracket and how much your account is worth.

 

Tax bracket:

Currently, we pay taxes within certain tax brackets based on how much money we make. So based on when you pay taxes on your retirement (now or later) you will theoretically be paying a different amount in taxes based on your tax bracket now vs later. For example: if you have a tax deferred account and are in a lower tax bracket when you start saving for retirement, you will pay more in taxes later on if you are in a higher tax bracket upon retirement.

 

Account value: 

Retirement accounts theoretically grow over (a lot) time, so it's a matter if you are paying taxes now on a smaller account value vs paying taxes later on a larger account value. For example, let's say you have an retirement account currently worth $10,000. In 30 years that same account is worth $300,000, and let's assume a tax rate of 30%. You will pay $3,000 in taxes now vs paying $90,000 in taxes later. That can make a huge difference.