Bestselling personal finance author and radio host Dave Ramsey has a blunt warning for Americans saving for retirement about Social Security and 401(k)s.
“Don’t rely on Social Security as your sole source of income in retirement — it won’t be enough,” Ramsey wrote on Ramsey Solutions. “Investing only up to the match on a 401(k) isn’t really enough for retirement either. Set yourself up for success by putting away 15% of your income each year.”
People concerned about the future of Social Security and lucrative investment ideas for retirement money often ask questions about what the best investment choices are for their 401(k) plans.
“If you’re leaning on your 401(k) as a big part of your retirement plan, it’s important to get these questions answered,” Ramsey wrote. “Why? Because your quality of life in your golden years partially depends on the investment choices you make today.”
When it comes to Social Security, what future retirees think they’ll get and what will actually show up in their bank accounts can be two very different numbers.
Social Security Administration explains monthly payments
On average, current retirees collect $2,071 each month from Social Security, totaling around $24,800 annually, according to the Social Security Administration (SSA).
“That’s barely enough to keep the lights on and put food on the table, let alone actually enjoy a comfortable retirement,” Ramsey wrote. “And yet, a recent poll found that almost 40% of Americans don’t expect to need any source of retirement income beyond Social Security.”
And Social Security faces future financing challenges.
“If the OASI Trust Fund (Old-Age and Survivors Insurance) and the DI Trust Fund (Disability Insurance) projections were combined, the resulting projected fund (designated OASDI) would be able to pay 100 percent of total scheduled benefits until the third quarter of 2034, unchanged from last year’s report,” the SSA reported.
“At that time, the projected fund’s reserves would become depleted and continuing combined fund income would be sufficient to pay 83 percent of scheduled benefits,” continued the SSA.
“The two funds could not actually be combined unless there were a change in the law, but the combined projection of the two funds is frequently used to indicate the overall status of the Social Security program.”
Dave Ramsey clarifies 401(k) savings
When employees enroll in a 401(k), they choose their contribution amount and select their investments from the options provided by their plan administrator.
“Then, that money will be deducted automatically from your paycheck to invest in the options you chose,” Ramsey wrote. “If you’re already enrolled in your company’s 401(k) plan, check your pay stubs to find out exactly how much you and your employer (if they offer a company match) are contributing to your 401(k).”
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Once employees opt into a 401(k), they get to pick their own contribution levels and choose where to put their money from the administrator’s list of options.
“You see, your 401(k) is like a warm, fuzzy sweater that shelters your investments from the harsh, bitter elements — which, in this case, are taxes,” Ramsey wrote.
“But how it protects your investments from taxes depends on whether you have a traditional 401(k) or a Roth 401(k).”
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Fidelity outlines pros, cons of Roth 401(k)
Even though most large companies offer a Roth 401(k) option, surprisingly few employees actually sign up for one, according to Fidelity Investments.
Because both traditional and Roth accounts carry clear pros and cons, the best path for any given worker ultimately comes down to their current finances and long-term plans.
“There’s no right or wrong answer,” said Fidelity’s Aaron Korthas. “The best option depends on an individual’s unique situation.”
Combining elements of both accounts, a Roth 401(k) functions as a hybrid retirement plan.
Like a Roth IRA, contributions are made with after-tax dollars, allowing potential earnings to accumulate tax-deferred and qualify for tax-free withdrawals in retirement.
However, contributions are handled directly via payroll deductions and are bound by standard 401(k) contribution limits, which are significantly higher than traditional IRA caps.
“If you expect your marginal tax rate to be at least as high in retirement as it is currently—which would apply to many younger participants who anticipate growing incomes over time — the Roth option could work in your favor over the long term,” said Andrew Bachman from Fidelity.
“This also sometimes applies to those who plan to move in retirement from a low-tax state to a high-tax state, say Texas to California.”
Regarding Roth 401(k) cons, Fidelity offers its perspective.
“The list of cons may be short for Roth 401(k)s, but missing tax deferral is a big one,” Fidelity wrote. “When faced with a choice of paying more tax now or later, most people choose to pay later, hence the low participation rates for Roth 401(k)s.”
Related: AARP warns Americans on 401(k), IRA costly mistakes
