Starting Out

What exactly is a 401(k), and what do you need to think about when you sign up for one?

Let's break it down.

A 401(k) is an employer sponsored retirement savings plan that includes special tax advantages.

Some employers match a portion of their employees' contributions.

For example, an employer might offer a 5% dollar-for-dollar match.

This means that for every dollar you contribute to your 401(k), your employer will also contribute

one dollar, but the match is limited to 5% of your salary.

Think of this as "free money," and we recommend you contribute at least the amount

needed to receive your full employer match.

In this example, keep in mind that if you decide to contribute more than that 5%, your

employer won't match the additional contribution.

Every 401(k) plan is different, so the options available will depend on your specific plan.

Contributions to a traditional 401(k) are not taxed going in, so they can reduce your

taxable income.

Later on, withdrawals are taxed, including any earnings your contributions had.

Your employer may offer you the ability to make Roth 401(k) contributions.

With a Roth 401(k), you pay taxes at the time you contribute, but you won't be required

to pay taxes again on your contributions or investment earnings when you make qualified

withdrawals in retirement.

Some people borrow from their 401(k) for major purchases like a home or education.

That may be allowed, but it comes with some significant downsides and risks including

giving up potential earnings and potentially paying taxes and penalties if you default

on payments.

So, it's best to think of your 401(k) as a long-term investment account that's meant

to be used for retirement.

You should use other accounts for emergencies, or as a way to pay for other savings goals.

To learn more about how to take control of your financial future, check out the other

videos in our Finance 101 series.
 

Dear Carrie, I just graduated from college and I'm a total novice at money.  How can I get a handle on things?

First, congratulations on your big achievement.  

No doubt about it, being on your own for the first time can be stressful.

Trying to manage everyday expenses like rent, groceries, student loan payments, on top of other expenses is challenging.

I know all this might be intimidating, but this is an exciting time in your life.

And the good news is you can get a handle on your finances.

Here are my top three tips to get you there.

Live within your means. This is critical. Many people go into debt because they're living like rock stars.  The best way to live within your means is by creating a budget and tracking your spending. Once you know how much you need for essentials, like food, rent, savings, you can direct what's left toward the fun stuff and decide if you're willing to make the tradeoffs.

Spend mindfully. You're probably thinking what does that even mean? 

It means be aware of where your money is going and where you want it to go by setting goals, writing them down, and making sure that you spend accordingly.

Save, save… and have I said save?
Make saving a line item in your budget. It's okay if you start by setting aside a few extra dollars each month. 

Just be sure you're working toward saving for really important things, 

Like building an emergency fund to prepare you for anything unexpected.
Helping build a lifestyle you want, especially as you get older.  Retirement may seem far off, but as a young person you have the advantage of growing money over time.

And have fun. Go on a well-deserved vacation.

You may feel like you're a money novice now, but I promise you, if you dig in, it won't be as tough as you think. It's a life-long pursuit and you're in the driver's seat.  You got this.

For more suggestions, check out my Ask Carrie column. 

Dear Carrie, I'm only 25, but I keep  hearing that I should be saving for retirement.  Is that true?  How do I get started?

It's great that you're thinking about this at such a young age. It's so important, yet only 31% of young adults report saving for retirement.

I know it's hard to imagine your life 40 to 50 years from now, but it's really important to start laying the foundation now for the life you want to live in the future.  Time is your friend when it comes to saving for retirement, so take full advantage of it by starting to save now.

Here are my thoughts.

Does your employer offer a 401(k)?  If they do, start contributing at least enough to get a company match. Otherwise, you're walking away from free money.
If you don't have access to a 401(k), look into opening an IRA.  A Roth IRA is often a good choice for young people, since you pay the taxes on your contributions now, while your tax rate is probably fairly low. Then you can take your distributions tax-free when you're at retirement age, and likely in a higher tax bracket.

Now you might be wondering, how much should I save?  Try really hard to save at least 10% of your gross income, which is your income before any taxes or deductions.  Here's why that's important.

If you're in your 20s and you continue save 10% for the next 40 years, you may never have to increase that percentage because of the power of compound growth.
For example, if you start investing $500 a month for retirement when you're 25 years old, and you earn an average annual return of 6%, you would have a million dollars by the time you're 65 years old. But if you wait until you're 40 to start saving the same amount, you would end up with about half as much money.  
Just remember, the best thing you could do for your retirement is to start saving now. I promise, your future self will thank you.

For more ideas, please check out my Ask Carrie column.