Good and bad 401(k)s
Ways to compare the mediocre to the excellent
Any 401(k) can help you save for retirement. A great 401(k) allows you to save a whole lot more.
The difference between a mediocre plan and a great one could translate into tens of thousands of dollars in future retirement money.
Here are three features of great 401(k)s.
1 A great 401(k) doesn’t make you wait to start saving A good 401(k) comes with a company match, plenty of low-cost investment options and low fees. A great 401(k) doesn’t make you wait to take advantage of those features.
Many plans now allow participants to begin contributions immediately, with no waiting period. Others have waiting periods of one to six months. Some require people to wait a full year — the maximum allowed under federal law — and that delay can be expensive for workers.
2 A great 401(k) lets you keep the match Plans offer a number of different matching formulas, with some of the most common being 50% of the first 6% of earnings and 100% of the first 3% to 6% of pay.
The more generous the match, the better for participants — to a point. Many plans have long vesting periods for employer contributions.
Another common approach is a six-year “graded” vesting schedule. You might have to work two years before you get 20% of the match. You would get another 20% after each year of service until you were 100% invested in past and future matches after year six.
You’re always 100% vested in your own contributions, but it’s important to understand any restrictions imposed on your employer’s contributions — and perhaps push for shorter vesting periods.
3 A great 401(k) gives you more ways to save Most plans today offer a Roth 401(k) option that allows participants to put away money that won’t be taxed in retirement.
Contributions to a regular, pre-tax 401(k) give you an upfront tax break, but withdrawals are taxed as income. Contributions to a Roth 401(k) don’t reduce your current tax bill, but withdrawals in retirement are tax-free.
Some plans offer the option to make additional, after-tax contributions. Money in after-tax accounts can grow tax-deferred, but some plans offer “in plan” conversions that let you quickly move money into Roth accounts, minimizing the potential tax bill. This combination of after-tax contributions followed by conversions is known as a “mega backdoor Roth,” and can be helpful in piling up future tax-free funds.