Every 24 hours, you move one day closer to your retirement date, and your commitment to contributing to your 401(k) should also be peaking. Your goal is to be financially secure on the day you retire for the rest of your life and your spouse’s life.
Early in your career, the focus is often on growth, with aggressive investments to maximize your rate of return. As you get closer to retirement, preserving your nest egg becomes more important because you have more to lose. This change in your asset allocation strategy requires several smaller strategic adjustments, from increasing contributions and taking advantage of catch-up provisions to rebalancing your portfolio for lower risk exposure as you near retirement.
As Washington D.C. wealth advisors, the Brown|Miller team specializes in assisting higher-achieving individuals and families in creating comprehensive retirement plans, including the development of retirement savings and income strategies that include the management of assets in 401(k)s. In today’s blog, we’ll review various 401(k) contribution strategies to help you improve your financial preparation for your golden years.
Know the Difference: 401(k) v. Roth 401(k)
A 401(k) and a Roth 401(k) differ primarily in tax treatment:
- Contributions to a traditional 401(k) are made with pre-tax dollars, which reduces taxable income in the year they are made. However, withdrawals during your retirement years are taxed as ordinary income.
- In contrast, contributions to a Roth 401(k) are made with after-tax dollars, meaning there is no immediate tax benefit, but qualified withdrawals in retirement are tax-free, including any investment gains.
- Gains and income produced by assets inside traditional Roth and 401k plans are also tax-free for Roth and 401k appreciation.
Employer-Sponsored Contributions
One of the best ways to grow your 401(k) balance over time is by participating in employer-sponsored matching programs, assuming your employer offers this financial incentive. The employer match is essentially free money that can boost your retirement savings efforts.
How it Works:
The contribution limits for employer-match contributions to a 401(k) plan can vary significantly depending on the specific plan rules set by the employer. However, the following are some general guidelines and typical matching practices:
Minimum Contribution Limits: While there isn’t a federally mandated minimum contribution limit for employer-match contributions, employers can set their matching policies. Commonly, employers may offer a match based on a percentage of the employee’s contributions, such as:
○ 50% match on the first 6% of the employee’s contributions
○ 100% match on the first 3-4% of the employee’s contributions
Maximum Contribution Limits: The IRS sets the maximum contribution limits for 401(k) plans, including employee and employer contributions:
○ For 2024, the combined contribution limit (employee + employer) is $69,000 or $76,500 for those aged 50 and over with catch-up contributions. Within this framework, employers may set their matching limits, such as:
■ A dollar-for-dollar match up to a certain percentage of the employee’s salary, for example 5%
■ A lower percentage matches a higher percentage of salary, like 50% matching 10% of the employee’s salary
Your employer can offer different matching structures but must comply with IRS rules and non-discrimination requirements to ensure the plan benefits a broad range of employees.
Benefits
Let’s say an employee earned $60,000 and contributed 5% of that salary ($3,000) toward the company 401(k); if your employer offered a 100% match up to 5% of your salary, you’d receive an additional $3,000 into your 401(k) account. The additional contributions can help you build a more substantial retirement nest egg, enhancing your financial security during retirement.
Contributions, including the employer match, grow tax-deferred until withdrawal. This can lead to significant growth over time, especially with the tax-free compounding of the rates of return.
Employer-matched 401(k) plans and other sought-after retirement benefits can also improve employee satisfaction and retention.
Brown|Miller Tip: Always check the specific details of your employer’s 401(k) plan to understand the exact matching policy and limits. Talk with a retirement planning specialist in Washington, D.C.
The Power of Catch-up Contributions
Another way to enhance your 401(k) savings efforts is to use catch-up contributions. These are designed to help people 50 or older boost their retirement savings as they approach retirement.
How 401(k) Catch-Up Contributions Work
- Catch-up contributions are available if you are 50 years or older by the end of the calendar year
- For 2024, employees can contribute an additional $7,500 as catch-up contributions beyond the standard contribution limit of $23,000
- This applies to both 401(k) and Roth 401(k) plans, bringing the total possible contribution to $30,500 for individuals aged 50 or older
- Contributions are made pre-tax, reducing your taxable income for the year. Taxes are deferred until the funds are withdrawn in retirement from your 401k
- You must elect to make catch-up contributions through your employer’s payroll, just like you do with your regular 401(k) contributions. The additional amount is specified separately in their plan’s contribution settings.
- Employer matching policies on catch-up contributions can vary. Some employers may match these contributions to a certain limit, while others may not. You should check your specific plan details.
How Catch-up Contributions Work for Roth 401(k)s
- Contributions to a Roth 401(k) are made with after-tax dollars. This means no immediate tax benefit, but withdrawals, including earnings, are tax-free in retirement, provided certain conditions are met.
- You can designate your catch-up contributions to your Roth 401(k) account through your payroll settings. These are made separately from regular Roth 401(k) contributions.
- If your employer offers matching contributions, the matched funds are typically placed in a traditional 401(k) account, not the Roth 401(k). The match itself is pre-tax and will be taxed later upon withdrawal.
Backdoor Roth 401(k) Contribution Strategies
A back-door Roth 401(k) contribution strategy involves making after-tax contributions to a traditional 401(k) and then converting those funds to a Roth 401(k). This method is used by high-income earners who exceed the Roth IRA income limits but want to benefit from tax-free growth and withdrawals in retirement.
The process typically involves contributing to the after-tax portion of the 401(k), executing an in-plan Roth conversion, and moving those funds into the Roth 401(k) account.
While the conversion itself may trigger taxes on any gains made while in the traditional 401(k), future growth and withdrawals from the Roth 401(k) are tax-free, allowing for greater tax-free distributions and potential tax savings in retirement.
Brown|Miller Tips: Because of the possible tax implications associated with Roth 401(k)s and Roth IRAs, it’s always best to work with a Washington D.C. wealth management team specializing in retirement planning.
Partnering with Brown|Miller Wealth Management
Brown|Miller Wealth Management is committed to providing tailored advice that complements your goals, risk tolerance, and lifestyle. Our expertise in managing diverse investment portfolios in Washington, DC, and Virginia enables us to offer personalized, strategic insights that align with your retirement objectives.
Whether you want to optimize your 401k contributions, explore the advantages of a Roth 401(k) or Roth IRA, or implement a mega backdoor Roth strategy, our team is ready to assist you in developing a plan that meets and exceeds your retirement expectations.
For more information on how we can help you optimize your retirement planning strategy, visit Brown|Miller Wealth Management and schedule a consultation with one of our financial planners in Washington, DC, or Virginia today.
