How Advisors Can Help Clients Become 401(k) Millionaires
401k plans are common retirement planning tools. This employer-sponsored plan can offer tax advantages and help individuals build their retirement corpus. There are two types of 401(k)s – a traditional 401(k) and a Roth 401(k). The former allows investors to contribute their pre-tax income to the account. The money grows tax-deferred, and the withdrawals are taxed in retirement. This can be suitable for investors who foresee being in a smaller tax bracket in retirement. However, if the client prefers paying income tax right now, a Roth 401(k) may be ideal as it allows the investor to contribute after-tax money, and withdrawals are exempt from tax. A primary advantage of the 401(k) is that the employer may match the employee’s contribution. For every $2, the employer can contribute $1 to the 401(k). This can be helpful in speeding the process and enabling clients to reach their retirement goals sooner.
Most people know about the 401(k) account as they get it at their workplace from the employer and also contribute to it. But what many people do not know is that a 401(k) can also help one get rich and become a millionaire. Hiring a financial advisor to manage 401k investments can help clients become a part of the 401k millionaires club.
Should investors hire a financial advisor for 401k plans?
A financial advisor may be able to add value to the 401(k) account by offering his professional advice and acumen. On average, a 401(k) may offer 21 investment funds to choose from. But, many a time, the workplace 401(k) may not offer as many investment options to pick from. Investors typically have to select from different funds, browse through expense ratios, charges, returns, performance, and more and then come to a decision. For someone just starting out, this may prove to be a hard choice. In addition to this, it can be time-consuming to monitor all investments, both within and outside of the 401(k) plan. So, hiring a financial advisor may be helpful.
How can clients benefit from hiring a financial advisor?
There are several ways in which clients can benefit from hiring a financial advisor. A professional financial advisor can help clients maximize their investments by taking advantage of their contributions, lowering tax, investing in 401(k) plans along with optimizing other options, and a lot more. Find out more about this below:
- Understanding 401(k) contributions:
It is vital to know how much you can contribute to 401k each year to make the most of the account. The contribution limits for a 401(k) are set by the Internal Revenue Services (IRS) and can be modified every year. These changes are made as per the inflation rate in the country at the time and can help investors maximize their contributions and profits. The 401k contribution 2022 is fixed as follows:
- For investors under the age of 50, the maximum 401(k) contribution limit is fixed at $20,500. This is a $1,000 increase from $19,500 in 2021.
- For investors aged 50 years or older, the IRS allows an additional catch-up contribution of $6,500. So, investors aged 50 years or more can make a total contribution of up to $27,000 ($20,500 + $6,500).
While these figures may be easy enough to find, it can be challenging for investors to understand how these changes can genuinely impact them. However, a financial advisor can help clients understand this better. For instance, for a total contribution of $27,000, investors can contribute an additional $83 every month and a total of $2,250 per month. Understanding this in regard to the client’s monthly budget, investment strategies, time horizon, etc., is essential. For example, many clients contribute to an Individual Retirement Account (IRA) and a 401(k) account together. An IRA is another retirement account like a 401(k), but is not company-sponsored. It also has two types – Roth and traditional, and can be used for tax savings and retirement planning. However, there is a limit up to which an individual can contribute to an IRA and a 401(k) together in one year. An investor investing in a 401(k) and an IRA cannot exceed the $26,500 limit in 2022. For those over the age of 50, the limit is capped at $34,000. This translates to $20,500 per annum in a 401(k) plan and $6,000 per annum in an IRA for people below the age of 50. Those aged 50 or more can contribute $20,500, an additional $6,500 as 401(k) catch-up contribution, and $1,000 as IRA catch-up contribution. If an investor contributes more than the prescribed 401k contribution 2022 limits, the IRS can tax the value of the extra contribution twice. A financial advisor can help clients understand these rules and limits mandated by the IRS. Moreover, the advisor can also help their client avoid penalties and taxes on their 401(k) contributions.
A 401(k) plan can offer different investment options like mutual funds, stocks, target-date funds, bonds, guaranteed investment contracts (GICs), etc. The employer’s company shares can also be an option in some 401(k)s. The proper selection can be made on the basis of the investor’s risk appetite, goals, time horizon, and more. A financial advisor can help clients pick the right mix. For instance, if the client wants to invest in mutual funds, the advisor can help determine the best option based on expense ratios, past performance, Net Asset Value (NAV), and more. In addition to this, the advisor can also recommend diversification strategies to reduce risk and enhance the potential of returns. The advisor may suggest a combination of large, mid, or small cap stocks, bonds, exchange-traded funds, target date funds, and more. The appropriate mix can be decided based on the client’s age, income, future goals, and risk appetite and may be unique to every investor. For instance, target-date funds can be ideal for young investors as they offer multiple benefits of diversification as per the investor’s age and future retirement date. In addition to this, the choice also has to be made according to the client’s asset allocation in other accounts. So, hiring a financial advisor may be advised to realize the goal of being a part of the 401(k) millionaires club.
Maximizing the client’s 401(k) contribution can hold many advantages. The biggest one is tax savings. Investors with a traditional 401(k) account can particularly benefit from maximizing their contributions, as these accounts are taxed in retirement upon withdrawal and not at the time of contribution. So, maximizing the contribution would lower the client’s gross income and, therefore, put them in a lower tax bracket. For clients who are availing of the catch 401(k) contribution 2022, this can be even more advantageous to them, as they get to save more tax with the additional $1,000 in catch-up contribution. Maximizing contributions also helps get a higher employer match. Employers generally match the employee’s contribution up to a certain percentage, in most cases 50%. So, the higher the contribution made by the employee, the higher would be the employer’s match. This can significantly benefit the investor in the long run.
However, the job of a financial advisor is not just to help the client lower their tax dues and increase their contributions in the present. The advisor also has to think of the future. If a client is contributing to a traditional 401(k) account, their tax output may substantially increase in retirement as they would find themselves in a higher income bracket with maximized contributions. Moreover, maximizing contributions for 401k plans can also put other kinds of pressure on the client. It may neglect their other goals like education savings for kids, emergency savings, health savings, insurance needs, debt repayments, and more. Besides, a 401(k) plan is not the only investment that a client may have. If the client is investing in other instruments, the financial advisor would have to take a comprehensive look and then recommend strategies for the 401(k) that can help the investor be a millionaire. A financial advisor has to consider all of these aspects and weigh the pros and cons of each move before recommending a strategy to their clients. This can require professional experience and foresight that may not be easy for the investor but can be found in a financial advisor.
Investors have the option of holding multiple 401(k)s. This is generally a result of changing jobs often, which is quite common in today’s times. If a client has multiple 401(k)s, the financial advisor can help focus on the cumulative value of all 401(k)s and help it reach the million dollar figure. A financial advisor can advise investors on how to manage their multiple 401(k)s more efficiently. Many people withdraw their 401(k)s when they quit or change jobs. However, this can impact their overall retirement planning and delay the pace. Withdrawing funds before time can result in penalties. The IRS levies a 10% early penalty on withdrawals made before the age of 59.5. Withdrawals can also increase the account holder’s tax liability for the year and put them in a higher tax bracket. Most importantly, the investors lose the chance of growing their funds tax-deferred. Financial advisors can help investors roll over their old 401(k)s to their new employer. The advisor can check the investment options and their associated costs to ensure a seamless and profitable rollover to the new employer’s 401(k) plan. They can also recommend a rollover into an IRA if that is what the client wants. On average, 401k millionaires according to Fidelity, invested in the same 401(k) for a minimum of 34 years. However, this may not be feasible for all 401(k) account holders in today’s day and age, where switching jobs is an accepted norm and sometimes the necessary thing to do. But financial advisors can help investors be steady with their 401(k) investments, irrespective of the number of jobs they change throughout their career.
Last but not least, financial advisors can help clients focus on what’s important for them at their current life stage and which goals they should be pursuing. While most investors may want to get into the 401k millionaires club, not many understand what it means to be in it. Being a millionaire may or may not benefit all investors in the same manner, as everyone’s needs and lifestyle can differ. The ultimate retirement goal for an investor must be in line with their personal requirements, liabilities, family responsibilities, expenses, risk appetite, investment horizon, and more. In this sense, it may not always be about how much you can contribute to 401k but how much should be contributed to maintain a comfortable standard of living without compromising on other financial goals. 401(k) plans may be the most beneficial as a long-term strategy, as they can come with heavy penalties on early withdrawals. A financial advisor can guide the investor in understanding the relevance and utility of a 401(k) account. The advisor can also offer suggestions on how to build a comprehensive and all-inclusive financial portfolio that can contain a 401(k) account, as well as real estate, foreign stocks, exchange-traded funds, index funds, real estate investment trusts (REITs), and more, according to the investor’s income, requirements, and limitations.
401k plans can be an excellent retirement savings option. Since many employers offer it, the account enables individuals to start their investment journeys from a young age. This is great as it provides them with an early start and a long time horizon to fulfill their financial goals. A 401(k) retirement account offers nearly three times more contributions than an IRA, so the scope of growth is immense. Coupled with tax savings and the additional catch-up contributions, investors can truly reach the million dollar mark with steady investments. However, it may be helpful to hire a financial advisor who can understand the impact of maximizing contributions first. Knowing the consequences on tax, other goals, etc., and realizing the actual impact on the investor’s earnings is essential, and a professional financial advisor can help in this regard.
To get in touch with a fiduciary advisor who may help you understand the benefits of a 401(k) retirement account and how you can best maximize your savings to become a millionaire, use the free advisor match service. Based on your requirements, the platform scans through registered and qualified advisors to match you with an advisor suited to your financial needs and goals.