Money can get tight and emergencies happen. When you’ve built up a nest egg for yourself in a 401(k), It can be tempting to want to dip into those savings. In most cases, however, you should exhaust every other option before you do. Why?
401(k) penalties
If you’re younger than 59½, you’ll pay an additional tax penalty of 10% of the funds you withdraw. That’s a big penalty. If you withdraw $20,000 from your 401(k), for example, you will immediately lose $2,000 in tax penalties.
Note: the 10% penalty can be waived if you become permanently unable to work due to disability. There are also some variations on this rule for people who leave their employer after age 55 or who work in the public sector. Most people taking an early withdrawal from their 401(k), however, can expect to sacrifice 10% of the funds they withdraw this penalty. Not to mention missing out on the compound interest you would have if you would have left that money alone.
401(k) taxes
Remember, the contributions you make to your 401(k) plan come out of your paycheck before you pay taxes on that income. In fact, that tax savings is one of the major benefits of using a 401(k). When you take a withdrawal, however, those funds count as income for the current year. You will have to pay any federal and state income tax on those funds the same as you would for any other income.
Lost employer contributions
If your 401(k) is provided by your employer, and your employer contributes to your retirement savings, you may lose some of those funds if you make an early withdrawal. Some employers use vesting schedules for contributions they make for their employees. Basically, even though the employer contribution shows up in your account, you don’t actually own those funds—and you can’t use them or take them with you to a new job—until you’ve worked a certain amount of time for your employer.
Say you’ve contributed $5,000 to your 401(k), and your employer matched that contribution, contributing an additional $5,000 to your retirement savings. Your 401(k) account balance may show $10,000, but if you’re only 30% vested, you only own 30% of that employer contribution: $1,500. So, the real total you can access is just $6,500. If you take an early withdrawal, in addition to taxes and penalties, you also lose the portion of your retirement savings that isn’t vested (in the case of thisexample, $3,500).
Lost growth
The biggest reason to avoid taking an early withdrawal from your 401(k) is that by withdrawing moneynow, you are losing out on all of the interest that money would earn if you left it in your 401(k) until you retired. As a very basic example, if you had $5,000 in your 401(k) today, and it grew at an average rate of 5% per year, it would be worth $10,441 in 20 years—more than double. If you withdraw those funds early, however, you’re not only facing a stiff tax penalty, you’re losing all of that additional growth.
FAQs
With the $1,000 per month rule, if you plan to withdraw 5% of your savings each year, you'll need at least $240,000 in savings. If you aim to take out $2,000 every month at a withdrawal rate of 5%, you'll need to set aside $480,000. For $3,000, you would aim to save $720,000.
Can I retire at 62 with $400,000 in my 401k? ›
If you have $400,000 in the bank you can retire early at age 62, but it will be tight. The good news is that if you can keep working for just five more years, you are on track for a potentially quite comfortable retirement by full retirement age.
What is a good amount to retire with in 401k? ›
Some industry experts say the magic savings number for retirement is 10 times your annual salary by the time you're 67. Another strategy is to save 10%-15% of your pre-tax salary throughout your career. Everyone's financial situation is different, so the amount they need to save in their 401(k) is, too.
How long will $300,000 last in 401k? ›
Summary. $300,000 can last for roughly 26 years if your average monthly spend is around $1,600. Social Security benefits help bolster your retirement income and make retiring on $300k even more accessible. It's often recommended to have 10-12 times your current income in savings by the time you retire.
Is $100 a month good for 401k? ›
Your Retirement Savings If You Save $100 a Month in a 401(k)
If you're age 25 and have 40 years to save until retirement, depositing $100 a month into a savings account earning the current average U.S. interest rate of 0.42% APY would get you to just $52,367 in retirement savings — not great.
At what age is 401k withdrawal tax free? ›
Once you reach 59½, you can take distributions from your 401(k) plan without being subject to the 10% penalty. However, that doesn't mean there are no consequences. All withdrawals from your 401(k), even those taken after age 59½, are subject to ordinary income taxes.
Is it better to collect Social Security at 62 or 67? ›
You can start receiving your Social Security retirement benefits as early as age 62. However, you are entitled to full benefits when you reach your full retirement age. If you delay taking your benefits from your full retirement age up to age 70, your benefit amount will increase.
What is a good monthly retirement income? ›
Average Monthly Retirement Income
According to data from the BLS, average 2022 incomes after taxes were as follows for older households: 65-74 years: $63,187 per year or $5,266 per month. 75 and older: $47,928 per year or $3,994 per month.
How much money does the average American retire with? ›
The above chart shows that U.S. residents 35 and under have an average of $30,170 in retirement savings; those 35 to 44 have an average $131,950; those 45 to 54 have an average $254,720; those 55 to 64 have an average $408,420; those 65 to 74 have an average $426,070; and those over 70 have an average $357,920.
Is $1000 a month in 401k good? ›
As a rule of thumb, the sooner you start saving for retirement the better. If you start by contributing $1,000 a month to a retirement account at age 30 or younger, your savings could be worth more than $1 million by the time you retire.
One of those tools is known as the Rule 72. For example, let's say you have saved $50,000 and your 401(k) holdings historically has a rate of return of 8%. 72 divided by 8 equals 9 years until your investment is estimated to double to $100,000.
At what age should you have 100k in your 401k? ›
“By the time you hit 33 years old, you should have $100,000 saved somewhere,” he said, urging viewers that they can accomplish this goal. “Save 20 percent of your paycheck and let the market grow at 5% to 7% per year,” O'Leary said in the video.
How long will a $500000 401k last? ›
According to the 4% rule, if you retire with $500,000 in assets, you should be able to withdraw $20,000 per year for 30 years or more. Moreover, investing this money in an annuity could provide a guaranteed annual income of $24,688 for those retiring at 55.
Can I live on $2000 a month in retirement? ›
Retiring on a fixed income can seem daunting, but with some planning and commitment to a frugal lifestyle, it's possible to retire comfortably on $2,000 a month. This takes discipline but ultimately will allow you to have more freedom and happiness in your golden years without money worries.
Is $800,000 in 401k enough to retire? ›
Yes, $800k provides a healthy nest egg that allows for annual withdrawals of around $32,000 from the age of 60 to 85, spanning 25 years. If $32,000 per year, or $2,667 per month, is sufficient to cover your retirement lifestyle, then $800k gives you an adequate buffer.
Is $500,000 401k enough to retire? ›
The short answer is yes, $500,000 is enough for many retirees. The question is how that will work out for you. With an income source like Social Security, modes spending, and a bit of good luck, this is feasible. And when two people in your household get Social Security or pension income, it's even easier.
