What Exactly is a 401K and Why Should I Care?

By Liam Gannon - Delbarton School - New Jersey

Most of us 15-18 year olds know what a 401K is, right? It’s $401,000 that you save up to live on when you retire, right?

Unfortunately, there’s much more to a 401K than just that.

A 401K is really a vehicle for an employee to put money into his or her savings account, usually before taxes are taken out. In most cases, the employer will add money to the account. What is the money actually doing in a 401k? Its being invested into different markets (like the stock market and bond market) and each person can select investment mixes based on their risk preferences. Many employers will match your 401k, which means that whatever amount you deposit in a given year, they will put in the same amount.

IRA’s are other ways to help prepare for retirement with tax deductions and benefits, but that’s another story for another time.

Indeed, the concept of building a 401K isn’t that difficult in itself.  The government, and most employers, are willing to help you develop a retirement fund. Though it is a pretty simple idea, you may be asking yourself: where do I start?

The only place to start is to start saving as soon as possible. Why? Compound interest. Even though interest rates are currently at an abysmally low rate, you cannot discount the importance of getting interest on your money in developing a significant retirement fund.

With compound interest, the earlier you save or contribute to your 401k, the better. Every dollar and every year is necessary to augment the retirement fund just a little bit more. The money that you spend now on every quesadilla from Chipotle, every latte from Dunkin Donuts, and every movie ticket, can certainly cost you later in life, and possibly require you to remain in the workforce for a few years longer in order to save up more.

Of course, this doesn’t mean that you need to save up each and every penny you find under the couch cushions, but you should pay careful attention to how much you are saving. You will definitely thank yourself later in life for taking that $10 out of your Chipotle fund and into your 401K.

Obviously, the government wants to help you save up for retirement. And the vast majority of employers will help you out, too. Most of it comes down to, in the words of Clarence Clemons, savin’ up.