Maxing out Your 401(k) and What to Do Next

A 401(k) is a powerful retirement savings tool. If you have access to such a program through work, it's shrewd to take advantage of any employer match. If you still have money left over, there are other ways to save for retirement.

Retirement planning ensures individuals will live out their golden years in comfort, so it's vitally important to understand the ins and outs of this practice. This article outlines some of the other options you have available to make the most out of your retirement savings strategy and to help you lower your tax liability.

401(k) Employer Match

Many employers offer their employees 401(k) plans. And they may even match contributions to sweeten the pot. This means that for every dollar you contribute to your employer-sponsored plan, the company matches a certain percentage. This increases the amount of money saved in your account. Some match as much as 50% of your contribution, while others do a dollar-for-dollar match up to a specific limit.

Employers typically match Roth 401(k) plans at the same rate as traditional 401(k) plans. Some employers do not offer Roth 401(k) plans, however. One notable difference between traditional and Roth 401(k) contributions is that the employer's contribution is placed in a traditional 401(k) plan—taxable upon withdrawal. The employee's part of the contribution is placed in a Roth 401(k).

Some financial planners may encourage investors to max out their 401(k) savings. On average, individuals earn about $0.50 on the dollar, for a maximum of 6% of their salaries. That's the equivalent of an employer writing a $1,800 check to a worker who earns $60,000 every year. Furthermore, the $1,800 is essentially free money and can grow over time by investing in the financial markets.

You Don't Have to Be an Investing Pro

Although 401(k) offerings can be challenging for non-professionals to understand, most programs offer low-cost index funds, which are ideal for new investors. As individuals approach retirement age, it's prudent to modify their asset allocation by shifting a portion of their retirement assets from stocks or equities into bond funds. Many adhere to the following age-based allocation model:

• At age 30, invest 30% of retirement money in bond funds.
• At age 45, invest 45% of retirement money in bond funds.
• At age 60, invest 60% of retirement money in bond funds.

Those opposing the age-based approach may instead elect to invest in target-date funds, which provide investment diversification without choosing each individual investment.

"Target-date funds also trend towards being more conservative closer to the selected date. The combination of these benefits can make this a one-stop-shop for 401(k) participants," explains David S. Hunter, CFP and president of Horizons Wealth Management.

Investing After Maxing out Your 401(k)

Those who contribute the maximum dollars to their 401(k) plans can augment their retirement savings with a number of different investment vehicles. We've listed a few of them below.

Individual Retirement Accounts (IRAs)

You can contribute up to $6,000 to an individual retirement account (IRA) in 2022 and $6,500 in 2023, provided your earned income is at least that much. If you're 50 or over, you can add another $1,000 in both years, although some IRA options carry certain income restrictions.

Traditional IRA Income Limits

Deducting a traditional IRA contribution is subject to income ceilings if you are covered by a retirement plan at work.

For single taxpayers, the deduction phase-out starts at a modified adjusted gross income (MAGI) of $68,000 and goes away completely if your MAGI is $78,000 or higher, for 2022. This range increases to $73,000 to $83,000 in 2023. For those who are married and filing jointly, whereby the spouse making the IRA contribution has a workplace retirement plan, the phase-out starts at $109,000 and goes away at $129,000 ($116,000 and $136,000 in 2023).

If you don't qualify to deduct all or part of your traditional IRA contribution, you can still contribute up to the contribution limit. Your investment will still grow on a tax-deferred basis.

Roth IRA Income Limits

Contributing to a Roth IRA also involves income limitations and phase-outs. But unlike traditional IRAs, the limit determines your eligibility to contribute.

For single taxpayers in 2022, the income phase-out starts at a MAGI of $129,000 and goes away for incomes in excess of $144,000 ($138,000 to $153,000 in 2023). For married taxpayers filing jointly, the phase-out begins at a MAGI of $204,000 and ends completely above a MAGI of $214,000 ($218,000 and $228,000 in 2023).

Health Savings Accounts

Health savings accounts (HSAs) are available to those with high-deductible health plans (HDHPs), whether they access them through their employers or purchase them independently. Contributions are made on a pre-tax basis.

If used for qualified medical expenses, withdrawals from the account are tax-free. And since users are not compelled to withdraw the money at the end of each year, HSAs can function like another retirement plan, making them ideal vehicles for saving on healthcare expenses during retirement.

For 2022, the Internal Revenue Service (IRS) defines a high-deductible health plan as a plan with a minimum annual deductible of $1,400 for self-only coverage ($1,500 in 2023) or $2,800 for family coverage ($3,000 in 2023).

Also, under a high-deductible plan, annual out-of-pocket expenses (such as deductibles, co-payments, but not premiums) do not exceed $7,050 for self-only coverage or $14,100 for family coverage for 2022, but for 2023, do not exceed $7,500 for self-only coverage or $15,000 for family coverage.

The contribution limits for 2022 are $3,650 for an individual and $7,300 for a family; however, the 2023 contribution limit is $3,850 for individuals and $7,750 for families. The catch-up contribution for those who are 55 for both 2022 and 2023 is an additional $1,000.

Taxable Investments

Taxable investments are a viable way to accumulate retirement savings. While dividends and capital gains are subject to taxes, long-term capital gains on investments held for at least a year are taxed at preferential rates.

If you have maxed out your 401(k), be cognizant of asset location to ensure investments are held in taxable versus tax-deferred accounts.

Variable Annuities

Annuities often get a bad rap—sometimes deservedly. Still, a variable annuity can provide another vehicle that lets after-tax contributions grow on a tax-deferred basis.

Variable annuities generally have sub-accounts similar to mutual funds. Down the road, the contract holder can annuitize the contract or redeem it partially or fully, where the gains are taxed as ordinary income.

However, please be aware that many contracts have onerous fees and substantial surrender charges. If you are considering a variable annuity, conduct thorough due diligence and seek help from a financial advisor beforehand.

Frequently Asked Questions

The Bottom Line

When it comes to your future, investing money is always a good thing to do. Diligent savers who max out their 401(k) contributions have other retirement savings options at their disposal.