Social Security vs. 401(k)

SSA bases your monthly benefit amount on your earnings as a taxpayer during your working years. It was during this time that you “paid into the system" by paying Social Security taxes. Higher earnings during your career result in higher retirement benefits. Similarly, if you delay retirement benefits until after full retirement age, your monthly benefits will increase.

The Social Security Administration (SSA) may provide you with a monthly retirement benefit based on your work history. A typical earner must work for at least ten years before qualifying for this federal government benefit.

Social Security retirement benefits come with automatic enrollment in Original Medicare (Parts A and B). Your state may pay your Medicare premiums if you have limited income and resources. You cannot contribute to a health savings account once your Medicare coverage starts.

When Your Social Security Retirement Benefits Begin

Early retirees may collect Social Security retirement benefits beginning at age 62. However, these benefits will be less than if you waited until full retirement age to claim them. Full retirement age depends on the year you were born. As of 2023, full retirement age is 66 for workers born between 1943 and 1954. Full retirement age rises gradually to 67 for those born in 1960 and later.

At full retirement age, you can receive 100% of your earned Social Security benefits. If you delay retirement, your benefits will increase yearly until you reach the age of 70. If you were born in 1943 or later, you will receive an 8 percent benefit increase each year until you reach age 70.

401(k) Retirement Plans

What Is It?

A traditional 401(k) plan is an employer-sponsored retirement savings plan. The name 401(k) comes from the section of the federal income tax code that governs this type of retirement plan. Some consider a 401(k) an important employee benefit. These plans are tax-deferred. This means you do not pay income tax on your 401(k) contributions. But you will pay tax to the Internal Revenue Service (IRS) on later withdrawals.

The 401(k) is a “defined contribution plan." This means you can decide how much of your salary you contribute to your account. The amounts you contribute are called “elective deferrals" because you “defer," or delay, getting your money until retirement. Your contributions are invested and distributed when you retire. The higher your investment returns, the more money you will have when you withdraw.

Some employers offer a Roth 401(k) plan. With this plan, you can withdraw your contributions tax-free at retirement. However, your contributions to a Roth 401(k) plan are taxed upfront. If you do not have access to a Roth 401(k) plan through your employer, you can open a Roth individual retirement account (IRA) or “Roth IRA."

All About Contributions

Employers may match an employee's 401(k) elective deferrals. A common matching contribution rate is 3%. This means that if you contribute 3% of your salary, your company will put the same amount into your 401(k). You may contribute more, but your employer will not match beyond the selected rate.

The law places annual contribution limits on elective deferrals. An employee's elective deferrals, including both traditional 401(k) and Roth 401(k), are limited to $22,500 in 2023.

Vesting Requirements

All employees must be 100%, or "fully," vested in their plan when it is terminated. Being vested means that your employer cannot take back the money in your account for any reason.

Your contributions to the plan are fully vested. However, you may have to forfeit any amounts your employer contributed if you don't meet specific requirements. For example, some employers require that you work for a certain number of years to vest partially and additional years to vest fully.

Types of 401(k) Accounts

You may be most familiar with the traditional 401(k) account. However, there are a few other retirement plans that you may want to learn about. Here are some basics of three other common plans:

  • Profit-Sharing Plan: Under this defined contribution plan, eligible employees may receive a portion of an employer's annual contribution of company profits.
  • Safe Harbor 401(k) Plan: This plan requires an employer to make contributions for each employee. It is similar to a traditional 401(k) plan but has fewer rules for the employer to follow.
  • Savings Incentive Math Plan or Employees of Smaller Employers (SIMPLE) 401(k) Plans: Allows small businesses to offer retirement benefits and contributions to employees similar to those in a traditional 401(k). In this type of plan, employer contributions are always 100% vested.

When Can You Begin Collecting From Your 401(k)?

Generally, you can't start collecting retirement income from your 401(k) without penalty until you reach the age of 59 and a half. This age may be earlier in certain other circumstances like disability. Of course, you can delay collecting from your 401(k) beyond age 59 and a half. But new law affecting taxpayers in 2023 and beyond requires you to begin taking 401(k) distributions at age 73.

Retiring On Social Security vs. 401(k) Income

When you retire, you can collect both Social Security retirement benefits and distributions from your 401(k) simultaneously. The amount of money you've saved in your 401(k) won't impact your monthly Social Security benefits. However, since your Social Security benefits increase if you delay retirement, it may be beneficial to rely on 401(k) distributions in the early years of retirement.

For those who retire before full retirement age, collecting early means a lowered monthly benefit. Say, for example, your Social Security benefits would be $1000 a month at a full retirement age of 67. Should you retire at 62, SSA would reduce your monthly payment by 30% to $700. If you had waited to collect until age 70, you would have received a benefit of $1,240 a month. That's a benefit of $540 more a month if you had waited until full retirement age to collect.

Further Considerations and Next Steps

What makes the most sense for your retirement depends on a number of factors like how much you've earned and saved over the years. They also include factors like 401(k) balances, when you'd like to retire, medical needs, and life expectancy.

You may also want to consider an IRA or annuity, where personal funds are invested and grow tax-free or “tax deferred." The self-employed have many options to choose from for IRA providers.

Further, married workers may want to consider what retirement benefits are available to their spouses in the event of their death before they stop working. Pension plans, otherwise known as defined benefit plans (under which you didn't pay Social Security taxes), may reduce your spouse's SSA survivor benefits.

If you have questions about Social Security benefits or 401(k) retirement plans or what sort of benefits you may be entitled to, consider contacting a Social Security lawyer experienced in retirement planning to discuss your options.

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Can I Solve This on My Own or Do I Need an Attorney?

  • The initial Social Security process doesn’t require an attorney
  • An attorney primarily handles claims that are denied
  • It can be helpful to have an attorney during Social Security benefit disputes or appeals

A Social Security lawyer can help protect your rights to your benefits.

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