There are few things scarier than the nightmare of outliving your retirement savings.
Nearly half of all Americans worry they won’t have enough income to live off of when they retire, a fear that has persisted as long as the Gallup polls have been tracking this statistic.
However, by laying down some financial groundwork in advance, you can ease your concerns and ensure a smooth transition. The key is educating yourself about the types of retirement plans available—and making them work for you. Here are the four best retirement plans to consider as you decide how to plan for retirement.
401(k)
As a tax-advantaged plan, this type of retirement plan allows you to contribute your pre-tax wages into the account.
It’s offered by workplaces as one of your employee benefits, and some employers match their employees’ contributions, usually up to 6%. If your company allows employee matching, it’s crucial to take advantage of it. Otherwise, you’re leaving free money on the table.
Plus, since you can schedule the money to be sent to your account automatically with each paycheck, it’s a great no-brainer way of saving.
However, if you pull out your contributions before reaching age 59½, you’ll be subject to additional penalties.
Traditional IRA
An IRA, or an Individual Retirement Arrangement, is a plan offered by the IRS. This is a tax-advantaged plan as well, so you won’t pay taxes on your contributions until you take the money out in retirement.
A traditional IRA is a great option if your employer doesn’t offer a 401k, as IRAs offer a little more customization. You can decide how to organize your investments through stocks, bonds, CDs, mutual funds, ETFs, and more.
In 2020, the annual contribution limits are $6,000 for individuals up to age 50, and $7000 for those 50 or older. These limits apply to any contributions you make to both a traditional or Roth IRA (discussed below).
Note that there are also some restrictions based on income, and you’ll be taxed on the money when it’s pulled out in retirement. You’ll also pay a penalty if you remove your contributions early.
Roth IRA
With this newer variation on the IRA, contributions are once again taxed on the front end. Roth IRAs offer a little added flexibility, though: you can withdraw any money you’ve placed in a Roth IRA before retirement, with no penalties, as long as 5 years have passed since your contribution.
There are a few more subtle differences between these and traditional IRAs, but if you’re not sure which one is right for you, the IRS has a handy comparison chart. You can also speak to a retirement planning financial advisor for more personalized help.
SEP IRA
A great resource for the increasingly self-employed American workforce, SEP IRA stands for “Simplified Employee Pension IRA.” This option is ideal for people who are self-employed with no employees.
A SEP IRA allows you to set aside a portion of your income for your retirement account. One of the benefits is that your yearly contribution limits are higher than other types of accounts: $57,000 or 25% of your income.
Choosing Between Types of Retirement Plans
Each of these types of retirement plans offers great opportunities to expand your nest egg, but each has different features. If you’re new to retirement financial planning, you may find it a challenge to pick the one that works best for you. However, don’t forget that you can contribute to multiple options—within the annual limits—and that a financial advisor can help break down the subtle differences.
For more finance tips to keep you on track for success, check out our other posts!
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