The following is an excerpt from 5 Ways to Screw Up Your 401k
There are all sorts of creative tax loopholes out there for savvy investors to exploit, and over the years I’ve looked at (and even tried) plenty of them. But the truth is, you don’t have an army of fancy Ivy League tax lawyers to massively lower your federal income tax bill. The single best tax shelter out there happens to be one that is available to the vast majority of working Americans: the humble 401k plan.
The 401k plan is the only investment vehicle I’ve ever seen that offers instant, tax-free “returns” of 100%, via employer matching. And depending on what federal tax bracket you find yourself in, you can get instant “returns” of 10% to 39.6% due to the tax deferral.
That’s real money, to say the least.
And all of this assumes your 401k contributions and matches sit in cash. We haven’t even touched on actual investment returns yet, fop good reason. A well-constructed mutual portfolio might return 8%-10% per year if you’re lucky, which isn’t bad, of course. But it pales in comparison to the matching and tax benefits.
The humble 401k plan is a veritable money-printing machine. Yet it can be remarkably easy to make a mess of things and kill the goose laying the golden eggs. Today, we’re going to look at ways to really screw up a good thing.
Failing to Increase Your Contributions As Your Pay Rises
This is America. If you’re reading this, chances are good that you make enough money to eat and keep a roof over your head. Yes, our expenses rise over time due to inflation and family changes, such as the addition of children. But it’s safe to say that if you were able to survive on the income you earned last year, you should be able to survive on the same amount this year and do so comfortably.
So, as you get salary bumps, try to continue living on your old salary and use the raise to increase your 401k contribution. You don’t have to eat ramen noodles or sell blood to make ends meet. Just avoid lifestyle creep, and you can get a lot closer to maxing out your 401k plan.
I know, I know. That new car is just begging you to buy it. But you can stretch another year out of your old car, and 20 years from now, when you look down at your 401k balance, you’ll be happy you did.
To read the full article, see 5 Ways to Screw Up Your 401k