| As a responsible adult trying to save for your | | | | account is that you have to report that interest |
| retirement, the single greatest tool in your arsenal | | | | as income in the year that it was earned, and pay |
| is the 401(k) plan going through your employer. | | | | the appropriate percentage. Let's assume you're |
| In a previous article I explained the rule of 72, | | | | paying a combined total of 25%.and earning 6%, |
| which is how compound interest works. In a | | | | which gives you a net, after tax, rate of return |
| nutshell, take 72 and divide it by the interest rate | | | | of 4.5%. By deferring your tax payment to the |
| you're getting in percentage points, and that's how | | | | point where you actually withdraw from the |
| long it will take for your money to double. Thus, if | | | | account, your money will accumulate faster while |
| you're earning 6%, 72/6 = 12, and it takes 12 | | | | you're working and still making contributions. |
| years for a dollar earning 6% to double. | | | | Standard investment advice applies to 401(k) |
| With a 401(k) plan, up to a certain limit (usually | | | | plans - start with a mix of stocks, bonds and |
| 15% of your paycheck), for every dollar you put | | | | related investments, weighted towards stocks |
| in, your employer matches with a dollar. That | | | | and other long term yields when you're young, |
| means that you're getting a 12 year head start | | | | shifting to more stabilized, fixed monthly income |
| on compound interest doubling, assuming your | | | | investments as you age. |
| investments get an annual rate of return of 6%. | | | | There are drawbacks to a 401(k) plan; if you |
| However, just like those late night infomercials, | | | | leave your current employer before 5 years, the |
| "but wait, there's more!" applies. Your money in | | | | money they contributed to matching funds |
| the 401(k) plan is taken out pre-tax. This means | | | | reverts back to them. (This five year term is |
| that, at typical tax rates, for every dollar of | | | | your "vesting limit" - after that, your 401(k) |
| spending money you give up into your 401(k) | | | | program rolls over in your name. |
| plan, you're getting about a dollar and a quarter of | | | | You can't touch the funds in your 401(k) before |
| money put aside, which becomes two dollars and | | | | you turn 62 years old, without some significant |
| fifty cents after employer matching. This is an | | | | penalties, and even then, only under limited |
| amazing return on your investment, right out of | | | | circumstances. |
| the gate. | | | | However, even including these drawbacks, the net |
| Think that's all? Well, there's even more - the | | | | 250% return on the initial investment, and the net |
| interest your 401(k) account accrues is tax | | | | 33% increase in your compounding rate makes a |
| deferred. Comparing that to a normal investment | | | | 401(k) one of the best deals available for |
| account, what happens in the conventional | | | | retirement planning. |