Step 4: Save 15% of Household Income Into Retirement

Prerequisites:

Make sure to move onto Step 4: Save 15% of Your Household Income In Retirement only if you’ve completed the prerequisites stated above.

At this point you should be debt-free (except for house payments) and have a fully funded 3 – 6 month emergency fund.

Dave Ramsey’s 7 Baby Steps Plan

Step 4: Save 15% of Household Income Into Retirement

Hello again and welcome to Step 4 where you’ll save 15% of your household income and invest it into a retirement account.

In this step, the goal is to invest 15% of your gross household income into your retirement account. 

To start, find out if your company offers employee 401(k) retirement plans. A 401(k) is a company-sponsored retirement account where employees can contribute a percentage of their income to.

If they do, they will likely offer either a Traditional 401(k) or a Roth 401(k) account.

The Difference Between a Traditional 401(k) and a Roth 401(k)

A Roth 401(k) is a post-tax retirement savings account. That means your contributions have already been taxed before they enter your Roth 401(k) account. So, any future withdrawals in retirement is tax-free since taxes were already paid when you contributed.

On the other hand, a traditional 401(k) is a pretax savings account. When you invest in a traditional 401(k), your contributions go in before they’re taxed. So, any future withdrawals in retirement will be taxed since you did not pay taxes during contribution.

The current 401(k) contribution limit for 2020 is $19,500 – regardless of which 401(k) you choose.

Dave Ramsey’s 7 Baby Step Plan recommends a Roth 401(k) mainly for it’s tax benefits.

Here’s a video of one of Dave’s callers asking Dave to reassure him that a Roth 401(k) is better over a Traditional 401(k):

Employer Matching

Employers who offer 401(K) plans may also offer an employer match.

An employer match is when an employer matches what you contribute into your retirement account up to a certain percent. This is basically free money your employer is giving you, which is a great incentive to start investing into your retirement as soon as you can.

Regardless of whether or not your employer offers an employer match, you should utilize your company’s retirement plan services to contribute 15% of your income. It’s just an easier, automatic way of investing since they take it directly from your paycheck.

Other Retirement Account Options: IRAs

If your company doesn’t offer 401(K) for their employees, don’t fret.

You can open up an IRA (individual retirement account) online pretty easily.

There are two types of basic IRA’s to choose from. Like the Traditional 401(k) and Roth 401(k), there’s a Traditional IRA and a Roth IRA. 

The Roth IRA holds the same tax advantaged concept as the Roth 401(k) where contributions made are taxed during the time of contribution. So, any withdrawals made in retirement will be tax free.

What’s Next?

If you have your retirement account(s) set up to contribute 15% of your income, the next step in Dave’s 7 Baby Steps is Step 5: Save for Your Children’s College Fund.