Monday, October 22, 2007

401k - How to save money... without spending a dime of your own

It's amazing to me how many folks neglect to put money into their 401k plans, saying that they can't afford it.

I'll give the standard bromide about how you're passing over 100% (or 50%) returns by not contributing up to the level of matching by your company. If you're not doing this, you're giving up an instant doubling (or 50% increase or whatever) of your money.

If you're still not convinced, read on. I have a method for you to save a (modest) amount in your 401k without really contributing a single dollar.

All it will cost you is the time to withdraw your money immediately after it's contributed.

It's easiest to show how to do this with an example.

Assume you have a 401k where my employer matches $1 for $1 on the first 3% and $0.50 on the dollar for the next 2%. (As an aside, this is known as a Safe Harbor Plan and is gaining in popularity for reasons I'll discuss in a future post). Let's say you put 5% toward your 401k and you make $60,000 a year.

Each month, $5,000 * 5% = $250 will be put into 401k along with an employer match of $200 for a total of $450.

Now, you want to get your $250 back so you request an early withdrawal.

Therefore, I withdraw about $280 from my 401k, since there's an additional 10% penalty on early withdrawals above and beyond the normal tax rate.

Net, I have the same amount of after-tax money as I did before... but now I have $170 in my 401k.

Do this every pay period, and at the end of the year you will have over $2,000 in contributions... with no financial contribution on your part. At all.

(Note that your employer's matching funds have to vest immediately in order for this to work. Not sure if they do? Ask your HR representative, but more and more companies are moving to instant vesting).

Amazing, but true. Spread the word!

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