I didn’t quite understand this when I first started working. However, it’s a pretty simple principle (once someone explains it to you). Many companies have a 401K investment plan in which you can invest.
The 401K consists of different investment vehicles in which
you can elect to invest.
They are separate and distinct from your company stock.
The 401K will probably also provide an option to invest in the company
stock.
A significant benefit of 401K plans is that you invest in
them with pre-tax dollars. In other words, you don’t have to pay taxes on the
dollars that go into them (directly from your paycheck).
However, you must use
only dollars that you won’t need until retirement (there is a significant
penalty for withdrawing the funds before you turn sixty-five).
This is another
forced saving vehicle for you.
Another significant advantage of 401K plans is that companies
will often match anywhere from 1 to 5 percent of your gross salary. For every
dollar you put in your 401K plan, your company will also put in a dollar
(sometimes, the company will match 50 cents or 25 cents on the dollar).
Over the
past couple of years, the economy has forced
some companies to cut back on this benefit. Still, many companies continue to
offer their match.
An example will help you understand it better. Let’s say you
elect to invest $5,200 a year in your company’s 401K. Thus, the company will
automatically take $100 (pre-tax) from your salary every week and invest it in
your choice of investment options.
Let’s say your gross salary is $65,000 a year. If the
company matches the first 4 percent of your $65,000 salary, then it will add
$2,600 a year to your 401K investment (for free).
That’s pretty significant,
especially if you do this over time. Now, let’s look at how much is being
invested annually:
▪Your
401K investment = $5,200/year
▪Company match = $2,600/year ($65,000 x 4 percent)
▪Total
401K investment = $7,800/year ($5,200 + $2,600)
I don’t want to confuse you with the math.
Simply put, you’re making 50 percent ($2,600)
before you even start investing your money.
If given the
opportunity, I would do this every chance I got. Yet many people bypass this
company benefit.
So, force savings by using your company’s 401K benefit, and
contribute up to the point of the company match. This principle should make you
significant money over time
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