The ‘Mornings with Maria’ panel examines earnings and previews Q1 earnings for Nvidia and vendors.
For working Americans with access to a 401(k), there is perhaps no easier way to save for retirement. You tell your employer how much you want to contribute each year or pay period, and that amount is deducted from your paycheck accordingly.
And, if you’re lucky, you may not only have access to a 401(k) plan but also a workplace match. That’s free money to invest with your donations.
But many 401(k) savers overlook a major financial risk that can become a problem later in retirement. And if you’re saving in a 401(k), it’s something you should know about.
MOST 401(K) SAVINGS MAY CHANGE SHORTLY, DATA SHOWS
While 401(k)s make it easier for some people to build up retirement wealth, they have major potential downsides. (Getty Images)
The small distribution required can create an expensive surprise
One of the biggest risks to saving in a 401(k) is required minimum distributions (RMDs). Once you turn 73 or 75, depending on the year you were born, you are forced to withdraw a certain amount from your 401(k) each year or risk a large penalty.
RMDs aren’t just annoying. They may put you in a higher tax bracket in retirement, tax your Social Security benefits, and leave you paying more on your Medicare premiums.
ARE YOU THE NEW STOCK MARKET DRIVER IN JUNE 2026? HERE IS WARREN BUFFETT’S ADVICE
Of course, the larger your 401(k) balance once RMDs start, the larger those mandatory withdrawals should be. But if you don’t need to shell out all that money every year, it can be a big headache.
RMDs may put you in a higher tax bracket in retirement. (Stock)
And if you contribute slowly to a 401(k) over the decades, all the while investing in the stock market, it’s thought you could have several million dollars sitting in that account by the time you reach the age when RMDs kick in. That’s a good problem to have – but a problem nonetheless.
Planning ahead is essential
While RMDs may be a big problem for you if you have your retirement savings in a 401(k), there is one way to make them less of a problem: Make a Roth conversion before it starts.
HOW ETFS CAN WORK FOR RETIREMENT SOLUTIONS
With a Roth conversion, you move some (or all) of the money from your 401(k) to a Roth IRA. Roth IRA withdrawals are tax-free and not subject to RMDs.
Another option is to carefully manage 401(k) withdrawals before RMDs begin. Taking more money during your income years can reduce your future tax burden.
One of the biggest risks to saving in a 401(k) is required minimum distributions (RMDs). (Stock)
GET FOX BUSINESS ON THE GO BY CLICKING HERE
For example, you may have a time when you retire from your job and live only on Social Security for a while. That would be a good time to convert to a Roth or make strategic withdrawals from your 401(k).
While 401(k)s make it easier for some people to build up retirement wealth, they have major potential downsides. It’s important to understand how RMDs can affect your taxes and overall financial situation in retirement so you can plan around them.
The Motley Fool has disclosure policy.
