Planning for retirement is very essential for an NRI especially. An NRI has more options to choose from than most residents in India. So, they need to make wise decisions and choose the right plans while preparing for their retirement.
One such retirement plan is the 401(k) plan which is not applicable for Indian residents but only for USA-based Non-Resident Indians (NRIs). 401(k) is an employer-sponsored retirement investment and savings plan that works only in the United States.
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In this article, you will get to know all about the 401(k) retirement plan and how it can benefit you.
A 401(k) plan, popularly known as an employer-sponsored retirement and investment plan named after a section of the United States Internal Revenue Code. It is a defined contribution plan, which means it is completely up to the will of the employee as to how much they are willing to contribute to their account, subject to annual limitations.
Contributions made by the employee are directly withdrawn from their 401(k) account and invested in the funds of their choice. Employees can invest the money saved in their 401(k) account in one or more mutual funds offered by the plan.
 In general, there are 2 types of accounts under the 401(k) plan, mainly differentiated based on how they are being taxed.
|
Type 1 |
Type 2 |
|
Traditional account |
Roth account |
|
These are funded by pre-tax income |
These are funded by post-tax income |
|
Traditional account |
Roth account |
|
Launched in 1978 |
Launched in 2006 |
|
Suitable for employees in a lower marginal tax bracket |
Suitable for employees with a higher tax bracket |
|
Employees near the age of retirement should go for traditional account |
Young employees with low salaries now but likely to rise substantially in the future should go for Roth account |
|
Advantage of an immediate tax break |
Advantage of avoiding taxes later |
|
Under a traditional account, you deduct contributions now and get tax-free withdrawals later |
Under Roth account, you pay taxes on the contribution now and get tax-free withdrawals later |
|
Functions like personalized pension account |
Functions like a regular investment account |
|
No age restrictions |
No age restrictions |
|
Penalty and tax-free after 5 years and age 59.5 years |
Penalty-free but taxed as current income after the age of 59.5 years |
|
No mandatory distributions required |
Mandatory distributions after the age of 72 |
|
Tax-free withdrawals in the future |
Advantage of tax benefit since the day of purchase |
A typical 401(k) plan offers a wide range of investments, but any single plan might or might not offer all possible types of investments.
Even though a 401(k) investment plan comes with a variety of options like:
Still, the one that rules the 401(k) investment opportunities is Mutual Funds.
Mutual funds are the most common 401(k) investment options. The most common Mutual Funds investment options include:
|
Mutual Funds |
Features |
|
Stock mutual funds |
May have specified themes, such as value stocks or dividend stocks |
|
Bond mutual funds |
May feature specific kinds of bonds, such as short-term or intermediate-term |
|
Target-date mutual funds |
Includes both, stocks and bonds. Allocation keeps shifting based on specific target date or based on your retirement plan |
|
Stable value mutual funds |
Investment is made in safe assets, such as medium-term or government bonds. Returns and principal are insured against loss. Beneficial for investors near retirement |
The abovementioned mutual funds range from conservative to aggressive, along with many grades in between. All the major financial companies use these similar terms while talking about the Mutual Fund range.
Let us look at the different range of fund types offered under 401(k) investments
|
Fund Types |
Features |
|
Conservative Funds |
Avoids risks |
|
Value Funds |
The fund is in the middle of the risk range |
|
Balanced Funds |
Funds include more risky equities |
|
Aggressive Growth Funds |
As the name suggests, funds include high risk-taking value |
|
Specialized Funds |
These are the funds investing in emerging markets, utilities, new technologies, or pharmaceuticals |
|
Target-Date Funds |
Includes both, stocks and bonds |
Instead of investing all your money in one particular fund, it is always considered better to allocate your money around different funds. Allocation of money in different funds increases the probability of better returns. However, it is up to you to decide where and when to invest.
Here are some of the key factors that should be considered before you invest in a 401(k) plan
It is important to differentiate between how much money you are willing to invest and take the risk upon. The sooner you start investing, the less you have to save to reach your goals later in life.
Diversification helps in capturing better returns in the end. Investing in mixed investments like stocks, bonds, commodities, and others, while maintaining balance is the best way to diversify your portfolio.
One should always plan to take risks suitable to their portfolio. Higher the risk, more chances of profits and losses equally.
More time until you need the money means you can take more risks and generate higher returns. This means that you should invest in such a way that you have ample time to recover if at loss.
You should avoid buying funds with high fees. It is always recommended that in case of options available, one should opt for the lowest cost option, which is an index fund.
401(k) retirement plan is beneficial not just at the time of retirement but throughout. It is an investment option that can help you not just to save your money but also grow it over years.
As the 401(k) investment plan comes with dynamic features and benefits, you need to make a wise and informed decision to avail of maximum benefits at the end.
†Policybazaar does not endorse, rate or recommend any particular insurer or insurance product offered by any insurer. This list of plans listed here comprise of insurance products offered by all the insurance partners of Policybazaar. The sorting is based on past 10 years’ fund performance (Fund Data Source: Value Research). For a complete list of insurers in India refer to the Insurance Regulatory and Development Authority of India website, www.irdai.gov.in
*All savings are provided by the insurer as per the IRDAI approved insurance
plan.
^The tax benefits under Section 80C allow a deduction of up to ₹1.5 lakhs from the taxable income per year and 10(10D) tax benefits are for investments made up to ₹2.5 Lakhs/ year for policies bought after 1 Feb 2021. Tax benefits and savings are subject to changes in tax laws.
+Returns Since Inception of LIC Growth Fund
¶Long-term capital gains (LTCG) tax (12.5%) is exempted on annual premiums up to 2.5 lacs.
~Source - Google Review Rating available on:- http://bit.ly/3J20bXZ
^^The information relating to mutual funds presented in this article is for educational purpose only and is not meant for sale. Investment is subject to market risks and the risk is borne by the investor. Please consult your financial advisor before planning your investments.
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