Should I max out my 401(k)?

Jan 30, 2015 | Investment strategy, Wealth Creation

If this is really a broader question of, “Should I be saving and investing for retirement?” the answer is a resounding YES! However, a 401(k) is one of a few different avenues by which you can do that. Here are a few things to think about:

A 401(k) plan can offer a convenient way to save for retirement, because you can have contributions deducted directly from your paycheck. If this makes it easier for you to stay on track with your savings plan, then by all means, make use of the opportunity to contribute to that 401(k)! And if your employer offers a matching program, why not take advantage of it? That is essentially free money.

That being said, with a 401(k) plan you typically choose from a few investment opportunities that have been pre-selected by your employer. The offerings for 401(k) plans can thus vary widely from employer to employer, and your choices will not necessarily be a good representation of the broader market. So a 401(k) gives you less flexibility in terms of what you can invest in than you would have with other types of retirement accounts, such as an IRA (Individual Retirement Account).

Why does that matter? It’s all about diversification, which means investing your portfolio in a broad range of asset classes – global stocks, bonds, and hard assets like commodities and REITs. A healthy portfolio is a diversified portfolio: you don’t want to concentrate your investments because it creates the wrong kind of risk.

What if I max out my 401(k)?

Congratulations! (“Maxing out” = industry slang for putting as much in as possible – this is based on the annual contribution limit, which is $18,000 for 2015). If you can save even more, do it! I have yet to meet someone who can find a reason to complain, “I have too much money saved!” If you want to try to be the first, I double dare you—so open that Roth IRA (read on, below!) and save away!

What are some other ways I can save and invest for retirement?

Other common retirement accounts include traditional IRAs and Roth IRAs. Unlike a 401(k) plan, these IRAs are not through your employer. You decide how to invest your assets.

If you don’t already have an investment account, consider opening a Roth IRA. With a Roth, you contribute after-tax dollars now and the withdrawals you take in retirement are tax-free. Aim to fully fund your Roth IRA up to the annual contribution limit. But even if you can’t max it out, do what you can.

A healthy portfolio is a well-diversified portfolio. Don’t pick and choose single stocks. Don’t try to time the markets. That’s speculating, not strategic investing. Invest via low-cost mutual funds in a diversified portfolio – global stocks, bonds, and hard assets – and let your money grow over time.

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