The US government wants to encourage you to save for retirement. So they created the 401k as a special kind of savings account:


1. You can deposit up to $18K/year. This is $18K in pre-tax dollars, so in a way you can consider it the same as if you put roughly $22K into a normal saving account.


2. Lots of employers match up to a portion of salary. As a typical example, say you make $100K and your employer offers 100% match up to 3% of your salary. That’s an additional $3K you get, for free.


3. You can keep the money in your 401k account in cash, or choose among several mutual and bond funds that your employer’s 401k brokerage offers. Very popular (and decent) right now are target year funds. These will have names like Fidelity 2040. The 2040 represents the year you hope to retire. They are considered safe, no-brainer funds because they are automatically balanced as you get older (less risk as you approach retirement). You can literally set and forget for the next 20 years.


4. Your money grows in the 401k tax free.


5. When you retire, you are taxed on whatever you withdraw each year. The thinking is that you will be in a much lower tax bracket at retirement, so 401ks provide a significant tax advantage (reduce your taxes in step 1, and money grows tax free in step 4).


6. Even though you contribute through your employer, 401ks belong to you. So if you leave a job, the 401k stays with you. You could have a situation where you 10 jobs over your career with 10 different 401ks. Although most people just roll 401ks into their current job for ease of management (there’s a tax-free way of doing this).


7. I don’t recommend this, but you can borrow from your 401k for special cases: first time home purchase or expensive illness. You can also borrow for other reasons, but you get hit with a decent penalty. I don’t recommend this because it’s easy to borrow, very hard to put back. And this is your retirement we’re talking about – it should be the ultimate “emergency fund”.


8. In short, 401ks are the easiest, most surefire way that an average person can retire as a millionaire.