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Decide how much you need to save, period
Most experts recommend saving 15% of your income for retirement. Depending on your salary, that could be more than the annual 401(k) contribution limit — or much, much less.
It’s also a general rule. How much you need to save for retirement depends on a long list of factors. Your life expectancy, your investment risk tolerance and your expected income needs during those years are just a few.
Contribute enough to earn the employer match
About 95% of 401(k) plans include some sort of matching contribution from the employer. This contribution is in addition to your salary, and it does not count toward the IRS contribution limits.
Employers typically match between 50% and 100% of the employee’s contributions, up to a cap. Most companies require employees to contribute at least 6% of their salary per year to receive the full match, according to Aon Hewitt, a human resources consulting firm.
If your employer offers matching dollars, the question of how much you should contribute to your 401(k) has an easy answer: at least enough to earn the entire match. This match can make a huge difference over time. (Use our 401(k) calculator to help plan for retirement.)
(Based on a starting salary of $45,000, 3% annual salary increases and a projected 7% annual investment return.)
Then evaluate your 401(k) plan’s expenses
Even aside from that match, 401(k)s have a lot of benefits. The money you’ve elected to contribute is pulled out of your paycheck before you have a chance to see or spend it.
But these plans also have limitations. Your company will typically curate a small selection of investment options for its 401(k) — mostly mutual funds — which means you won’t have access to the wide variety of investments you can purchase through an IRA or brokerage account.
» MORE: How to invest your 401(k)
This relates to a second knock against 401(k)s: They tend to be expensive. Because of that small investment selection, you don’t have the ability to shop around for funds with the lowest expense ratios; you may be offered only one or two fund choices in each asset category. And your 401(k)s may also have high administrative fees if your employer passes the costs of maintaining the plan through to you. (Some generous employers cover these costs for their employees.)
Consider a Roth or traditional IRA
If you find your 401(k) is lacking in low-cost investment options, such as index funds and exchange-traded funds, or the plan’s fees are pricey, it makes sense to switch to contributing to a Roth or traditional IRA after you’ve captured your employer’s match.
An IRA is another tax-advantaged way to save for retirement, though the account you choose will determine the specific tax benefit. Roth IRAs are like Roth 401(k)s: funded with after-tax contributions, but withdrawals in retirement are tax-free. Traditional IRAs function like — you guessed it — traditional 401(k)s in that contributions are tax-deductible in the year they are made, but withdrawals are taxed in retirement.
IRAs also have annual contribution limits: For 2016 they are $5,500, or $6,500 for those age 50 or older. If you max that out and your calculations show you need to save more, you can then resume contributing to your 401(k) until you hit its limit.
One quick note: If your employer offers no match, you may want to start with an IRA. Once you’ve maxed that out for the year, then switch to contributing to your 401(k).
Reach your goals with gradual increases
Admittedly, maxing out both a 401(k) and an IRA each year is an unlikely feat (though if you did it starting at age 25, you’d be a millionaire by age 43). You may feel like just saving enough to get your full employer match is enough of a struggle.
So work your way up slowly, by bumping up your contribution 1% each year (if you get a raise, try to use some of it to bump up contributions even more.) Some companies even do this for you, by auto-escalating your contribution rate at the beginning of each year. Before you know it, you’ll be saving close to that recommended 15%.