Six Simple Ways to Retire Rich
Retirement savings plans Noun 1. retirement savings plan - a plan for setting aside money to be spent after retirement
pension account, pension plan, retirement account, retirement plan, retirement program, retirement savings account are undergoing an extreme makeover. After decades of trying to teach Americans how to save and invest for their own retirement -- with mixed success -- employers have come up with a simple solution: They'll do it for you.
Thanks to automatic enrollment in 401(k)s and other retirement plans, plus streamlined investment options, saving is so effortless ef·fort·less
Calling for, requiring, or showing little or no effort. See Synonyms at easy.
effort·less·ly adv. that you can't help but succeed. And that's true whether you're starting your career, switching jobs or planning your exit.
To help their employees compensate for disappearing pensions and declining Social Security benefits, more than one-third of large companies have already embraced the new reality of retirement saving: the automatic 401(k). That's up from just 19% in 2005.
More than half of all employers expect to offer automatic enrollment this year. The trend also applies to 403(b) retirement plans for teachers and employees of nonprofit organ-izations, as well as to the 457 plans that many state and local governments use. "Now you'll succeed at saving for retirement even if you don't do anything," says Jeff Maggioncalda, president of Financial Engines, a pioneer in providing investment advice to workers.
The most effective new plans pair automatic enrollment with an option to increase the amount you contribute to your account each year. When Nationwide Insurance added an automatic-escalation feature to its 401(k) plan last spring, employees Sean and Lisa Kennedy signed up, promising to boost their contributions by one percentage point each year until they reach the maximum contribution level.
"We can tie it to our annual salary increases," says Sean, 38. "We'll never see the extra money in our take-home pay take-home pay
The amount of one's salary remaining after federal, state, and often city income taxes and various other deductions have been withheld. , so we won't miss it."
Aside from adding to their already substantial nest egg Nest Egg
A special sum of money saved or invested for one specific future purpose.
Examples of the purposes for which nest eggs are usually intended include retirement, education, and even entertainment (vacations and cruises). , the Kennedys will also be able to cut their taxes -- a more immediate concern, says Lisa, 31. She and Sean, who live in Columbus, Ohio Columbus is the capital and the largest city of the American state of Ohio. Named for explorer Christopher Columbus, the city was founded in 1812 at the confluence of the Scioto and Olentangy rivers, and assumed the functions of state capital in 1816. , contributed more than $25,000 to their retirement accounts in 2007, saving them more than $7,500 in taxes, assuming a combined state and federal rate of 30%.
The third piece of the automatic 401(k) model is built-in professional investment advice, whether in the form of target-date retirement funds, computer-generated model portfolios or managed accounts. Together, the changes amount to a total overhaul of 401(k) plans. "It reverses our assumptions about what individuals are willing and able to do," says Maggioncalda. "It makes inertia inertia (ĭnûr`shə), in physics, the resistance of a body to any alteration in its state of motion, i.e., the resistance of a body at rest to being set in motion or of a body in motion to any change of speed or change in direction of work in their favor."
Employees are nearly unanimous in their support for being automatically enrolled in their company's 401(k) plan, according to according to
1. As stated or indicated by; on the authority of: according to historians.
2. In keeping with: according to instructions.
3. a recent study conducted for the Retirement Made Simpler coalition, made up of AARP AARP, a nonprofit, nonpartisan national organization dedicated to "enriching the experience of aging"; membership is open to people age 50 or older. Founded in 1958 by Ethel Percy Andrus as American Association of Retired Persons, AARP now has over 30 million , the Financial Industry Regulatory Authority Not to be confused with NASD.
In the United States, the Financial Industry Regulatory Authority (FINRA) is a new self-regulatory organization (SRO) under the Securities Exchange Act of 1934, successor to the National Association of Securities Dealers, Inc. (NASD). (Finra) and the Retirement Security Project. Nearly 95% of surveyed adults agreed that auto 401(k) plans make saving for retirement easier, and 85% said they started saving earlier as a result. Only 7% of those who had been automatically enrolled in a plan opted out. (Starting this year, if you are automatically enrolled in your company plan, you can get your money back without tax penalty in some cases if you back out within the first 90 days.)
Although auto 401(k) plans are a major step forward, they have a downside. Pamela Hess, director of research for consulting firm Noun 1. consulting firm - a firm of experts providing professional advice to an organization for a fee
business firm, firm, house - the members of a business organization that owns or operates one or more establishments; "he worked for a Hewitt Associates Some of the information in this article may not be verified by . It should be checked for inaccuracies and modified to cite reliable sources.
Hewitt Associates , worries that some employees may be lulled into complacency, accepting default contribution levels as implicit savings guidelines when they can and should be saving more. Most employers set the initial deferral deferral - Waiting for quiet on the Ethernet. rate at 3% of salary, and many plans with automatic-escalation features top out at 6% of pay. That's well below the 15% of gross income (including employer matching contributions Employer matching contribution
The amount, if any, a company contributes on an employee's behalf to the employee's retirement account, usually tied to the employee's own contribution. ) generally recommended as a target for retirement savings.
The Kennedys, who are approaching that recommended 15% target, are well on their way to a secure retirement, even if their plans to start a family may force them to scale back future contributions. An early start on saving, coupled with the power of compounding, will work its magic over time. But if you're a late bloomer This article or section may contain original research or unverified claims.
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This article has been tagged since September 2007. , don't despair. By starting now and increasing your contributions a little each year, you could still reach your goal.
If you are automatically enrolled in a 401(k) plan and you don't actively select an investment, your employer is now required to direct your contributions to an appropriate long-term investment, such as a target-date retirement fund, also known as a life-cycle fund life-cycle fund
A mutual fund that maintains a certain mix of stocks and bonds in order to attract investors of a given age and risk preference. Mutual fund families sometimes offer several different life-cycle funds with various asset allocations so as to (read more about all-in-one investing solutions on page 34). More than three-fourths of employers now offer a premixed portfolio option, up from 63% in 2005, reports Hewitt Associates. For most workers, this investment strategy is more suitable than the more-conservative default investments used in the past. But it could spook novice investors if the market nose dives nose dive
1. (of an aircraft) a sudden plunge with the nose pointing downwards
2. Informal a sudden drop: when we fail our self-confidence takes a nose dive
Still, even a weak stock market can be good news for investors in the long run, says Finra chief executive officer Mary Schapiro. Buying shares of mutual funds when prices are low positions you for big gains when the market rebounds. And most employees benefit from matching contributions Matching Contribution
A type of contribution an employer chooses to make to his or her employee's employer-sponsored retirement plan. The contribution is based on elective deferral contributions made by the employee. from their employer -- often 50 cents on the dollar up to the first 5% or 6% of pay. A guaranteed 50% return on your investment is better than any fund can promise. With regular contributions, most newly enrolled workers will see their account balances grow, even in a down market.
Although automatic 401(k) features tend to target new hires and younger employees, you may benefit even if you are already enrolled in your com-pany plan. Many employers now offer all workers access to personalized per·son·al·ize
tr.v. per·son·al·ized, per·son·al·iz·ing, per·son·al·iz·es
1. To take (a general remark or characterization) in a personal manner.
2. To attribute human or personal qualities to; personify. financial advice or all-in-one investment solutions, such as professionally managed accounts or target-date funds that invest in a diversified mix of stocks and bonds that grow more conservative as you near retirement.
A recent study by John Hancock compared the account balances of 401(k) participants who invested in funds with those of employees who selected their own investments from 2002 through 2006. Researchers found that after five years, 81% of workers who picked their own investments would have accumulated higher balances -- about two percentage points more, on average -- if they had invested in a single life-cycle fund instead.
Broad-based enrollment in a com-pany's retirement plan also benefits high-income employees (those who earn $105,000 or more), who are sometimes prevented from contributing the maximum amount to their 401(k) plan because too few lower-income workers participate. When auto enrollment is extended to existing workers who are not already in the company plan, participation rates can jump to as high as 95% of those eligible, according to the Retirement Made Simpler study, compared with an average 78% of eligible workers who currently participate in 401(k) plans.
Frazier and his wife, Ann, gathered all of their financial documents -- including life-insurance policies, Social Security statements and IRA Ira, in the Bible
Ira (ī`rə), in the Bible.
1 Chief officer of David.
3 Two of David's guard.
IRA. information -- and met with a Principal adviser to review their entire financial picture. "I was a little nervous," says Frazier. "I was afraid they might say I could never afford to retire." Instead, the adviser told him that he was on track to quit at 62 and encouraged him to bump up his 401(k) contributions from 7% to 10% of his salary just to be safe.
At 51, Frazier is eligible to add an extra $5,000 in catch-up contributions to his 401(k) this year, for a total of $20,500. With two kids in college, however, cash is tight. "I can't contribute the maximum now, but once the kids are out of school, I may try to save more -- probably in a Roth IRA Roth IRA
An individual retirement plan that bears many similarities to the Traditional IRA. Contributions are never deductible, and qualified distributions are tax-free. A qualified distribution is one that is taken at least five years after the taxpayer established his/her first ."
Most retirement-savings vehicles offer upfront tax deductions Tax deduction
An expense that a taxpayer is allowed to deduct from taxable income.
See deduction. plus tax-deferred growth on investments. But when you withdraw your money in retirement, you'll owe taxes at your ordinary tax rate, not the lower capital-gains rate reserved for most other long-term investments. The Roth IRA -- and its new cousin, the Roth 401(k) -- operate on the opposite principle: You get no tax break on your contributions now, but all of your withdrawals, including all of your earnings, are tax-free once you are at least 59 years old and the account has been open for at least five years.
Roth IRA contribution limits are the same as for a traditional IRA Traditional IRA
An IRA that is not a Roth IRA or a SIMPLE IRA. Individual taxpayers are allowed to contribute 100% of compensation (Self-employment income for Sole proprietors and partners) up to a specified maximum dollar amount to their Traditional IRA. : $5,000 in 2008, plus an additional $1,000 in catch-up contributions for those 50 and older. But not everyone is eligible. To contribute to a Roth IRA this year, your income can't exceed $116,000 if you are single or $169,000 if you are married and filing jointly.
Roth 401(k)s, however, have no income-eligibility limits. And now that Congress has made these plans permanent, more employers are starting to offer them. Fewer than one-fourth of employers surveyed by the Profit Sharing/401(k) Council of America offered Roth 401(k)s in 2007. But among the companies that didn't, more than 60% said they would consider adding a Roth 401(k) option in the future. Roth 401(k)s have the same maximum contribution limits as traditional 401(k) plans -- $15,500 in 2008, plus $5,000 in catch-up contributions for those 50 and older.
Younger workers, such as Chance Webre, are prime candidates for a Roth 401(k) because they will benefit from decades of tax-free growth. Webre, 21, a unit operator for Placid plac·id
1. Undisturbed by tumult or disorder; calm or quiet. See Synonyms at calm.
2. Satisfied; complacent.
[Latin placidus, from Refining, in Port Allen, La., also wants to minimize paying taxes today, so he splits his contributions between a traditional 401(k) and a Roth 401(k). (That's okay as long as your total contributions to both don't exceed annual limits.)
Together with his employer's whopping 8% matching contribution, Webre is saving an impressive 24% of his salary. "Being young and single and living at home, I can afford to stack up all this money right now," he says. "I'm planning for an early retirement at 55." Webre has a good shot at reaching his goal. If he continues to save aggressively at his current rate for just five years -- and never puts away another dime -- he would have more than $1.2 million by the time he's 55, as-suming an 8% annual return.
But Roths aren't just for the young. Older workers who earn too much to qualify for a Roth IRA can still take advantage of tax-free income tax-free income
The income received but not subject to income taxes. For example, interest from most municipal bonds is free of federal income taxes and often from state and local income taxes as well. Compare tax-deferred income, tax-sheltered income. in retirement through a Roth 401(k). And so can retirees like Bill Griffith Bill Griffith (born William Henry Jackson Griffith in Brooklyn, NY 1944) is a popular cartoonist in the United States. He is best known for his comic strip Zippy the Pinhead. of Dumfries, Va., who converts a little of his traditional IRA to a Roth IRA each year. Although Griffith must pay income taxes on the amount he converts, he thinks the advantages are worth it. He'll avoid mandatory distributions after age 70 -- a requirement for traditional IRAs -- and he'll be able to leave a tax-free legacy to his heirs. Currently, your annual income must be $100,000 or less to convert to a Roth IRA, but that restriction disappears in 2010.
The one option you'd do well to skip is to cash out your 401(k), which nearly half of all workers do, according to a 2005 study by Hewitt Associates. That's because you could lose as much as half of your account balance to taxes and penalties, as well as sacrifice all future tax-deferred growth on your savings. Let's say you have $50,000 in your account when you switch jobs. If you are in the 25% tax bracket Tax Bracket
The rate at which an individual is taxed due to a particular income level.
Each income class is taxed at a different level. Generally, the more you make the more you are taxed. and decide to take the money and run, you would lose $12,500 off the top. If you are younger than 55, you'd sacrifice another $5,000 in early-withdrawal penalties, leaving you with just $32,500. If you invested that money and earned an 8% annual return, you'd have about $108,000 after 20 years, after deducting for annual taxable gains Taxable Gain
The portion of a sale that is liable to taxation.
When redistributing mutual fund shares that have increased in value, returns may be subject to taxation.
See also: Capital gain, Income Tax . That would be less than half of the balance you would have accumulated had you left the money in a tax-deferred retirement account.
When Rob Falcone left his job as a financial analyst with PNC PNC Purdue University North Central (Westville, Indiana)
PnC Point 'n Click
PNC Police National Computer
PNC People's National Congress (Guyana)
Falcone, 51, also didn't want to give up shares in one of his favorite funds, Dodge & Cox Stock, if he rolled over his savings. The fund is available through his PNC 401(k) account, but it's closed to new retail investors Retail Investor
Individual investors who buy and sell securities for their personal account, and not for another company or organization.
Retail investors buy in much smaller quantities than larger institutional investors. . So he was relieved when he learned he didn't have to cash out of his investments to roll over his account. Instead, he could make in-kind transfers of stocks and most fund shares to a new IRA custodian bailee (custodian) n. a person with whom some article is left, usually pursuant to a contract (called a "contract of bailment"), who is responsible for the safe return of the article to the owner when the contract is fulfilled. . As long as you have at least $5,000 in your account, you can leave your 401(k) with your old employer, as one-third of employees do, and take your time deciding which move is best for you.
Falcone was also concerned about what to do with the company stock his former employer had used to match his contributions. At one point, about half of his 401(k) assets were tied up in PNC stock -- a dangerously high concentration. (Just ask former Enron employees what happens when your job and your retirement savings disappear at the same time.)
Employer stock presents a unique challenge to 401(k) participants and plan providers. Many employers use their stock to match contributions, but individual stocks can be much more volatile than mutual funds and don't fit easily into recommended asset-allocation models or target-date-fund portfolios.
Thanks to the sweeping Pension Protection Act of 2006, employers must now allow workers to cash out their company stock within three years to diversify their 401(k) investments, and many employers now allow their employees to transfer out at any time. By the time Falcone left PNC last November, he had reduced the company stock in his 401(k) to 14% of his port-folio, which was more in line with the 10% to 20% asset allocation Asset Allocation
The process of dividing a portfolio among major asset categories such as bonds, stocks or cash. The purpose of asset allocation is to reduce risk by diversifying the portfolio. normally recommended.
In late 2007, the U.S. Department of Labor issued guidelines for appropriate default investments in company retirement plans. For employers to qualify for liability protection if their plans include company stock, the Labor Department The Department of Labor (DOL) administers federal labor laws for the Executive Branch of the federal government. Its mission is "to foster, promote, and develop the welfare of the wage earners of the United States, to improve their working said companies would have to offer managed accounts. Maggioncalda, of Financial Engines, a leading provider of managed accounts, calls that "an elegant solution."
It allows employers to continue to match contributions without fear of liability, and it lets employees hang on to a portion of their stock while the rest of their investments are managed around it. If an employee has a heavy concentration of a single stock, as Falcone did, Financial Engines would gradually reduce his position but limit portfolio turnover to no more than 20% a month.