Savings Series: What is a 401K?
Time for personal finance’s most exciting topic (ok maybe not…but it’s definitely worth talking about!)
When you enter the workforce, it is crucial to take advantage of this incredible opportunity to ensure a secure retirement. But first, let’s understand what a 401(k) even is.
A 401(k) is a retirement savings plan that is offered by most employers in the US. The employee will get to choose a multitude of investment options, which are generally mutual funds. If you choose to contribute to a 401(k), a certain percentage of your paycheck will be allocated to your 401(k).
Types of 401(K) Accounts
There are two types of 401(k) accounts: the Roth 401(k) and the traditional 401(k). The differences between the two different types of 401(k) accounts are primarily to do with the timing of taxation.
In a Roth 401(k) account, any contributions are deducted from your income after taxes. This means you will pay more taxes during your contribution periods as compared to a traditional 401(k). However, when you withdraw money from your Roth 401(k) account, you will not need to pay any taxes on your investment earnings or your original contributions.
Regardless of which 401(k) account you choose, your 401(k) will grow over time due to compounded returns on your investments and the earlier you start contributing, the better off you will be upon retirement.