Dave Ramsey is one of the staunchest proponents of debt-free living. He is one of the most recognized counselors in the United States who helps Americans become debt-free with a more austere and rigorous life, and with expenses that are not beyond income capacity.
During a call on his show, he talked with a person named Aaron and his wife who are committed to him with one of Ramsey’s main steps in his help strategy, which is the total elimination of debts.
Aaron and his wife were dealing with a momentous decision about 401(k) retirement contributions after an unexpectedly high tax bill came their way.
the family income of Aaron and his wife is $131,000 a year and Aaron revealed that he currently contributes $6,000 annually to his 401(k) pension fund: That includes his employer’s 6% contribution.
However, the suddenly too-high tax liability had raised concerns about his ability to maintain these contributions and continue to address his debts in order to become debt-free at some point in the short term.
Ramsey’s Reason for Pausing 401(k) Contributions While Being in Debt
Ram’s point of view is clear: Full debt relief should be emphasized over the attractiveness of tax deferments or employee contributions to the retirement account. Of course, employee contributions and own contributions to 401k retirement funds are many but also living debt-free is even better.
Ramsey urged Aaron to focus primarily on eliminating his existing debts. With a total debt of $120,000, which included credit cards, student loans and vehicle loans, Ramsey recommended redirecting all of her resources toward debt reduction, even if that meant temporarily forgoing the employer contribution.
Ramsey’s position is based on the principle of concentration, which promotes a total dedication to eliminating debt in order to achieve financial freedom. He highlighted the need to make lifestyle adjustments and to tackle excessive spending habits, rather than being distracted by minor tax benefits or employer contributions.
Debate Sparkled Over 401(k) Retirement Savings After Ramsay’s Advice
Some financial experts came out to contradict Ramsay, arguing that the suspension of 401(k) contributions can be counterproductive: in some cases, and in good stock market scenarios, interest rates exceed those of most debts, so it can be financially advantageous to secure the full contribution before aggressively approaching the elimination of debts.
Anyway, Dave Ramsay’s advice is only the opinion of an expert based on his perceptions, and does not represent at all the final word in a much broader debate that is sometimes unfathomable. Aaron and everyone in similar situations should weigh the impact of the decisions they make, whether they prioritize the total elimination of debts or contributions to their retirement funds.
If you are in a similar situation, find out what the advantages and disadvantages are with your trusted financial or retirement advisor.
Advantages of Saving in a 401(k) Retirement Plan
Although 401(k) plans offer many advantages, it is important to also consider the potential disadvantages and associated costs, such as administration fees and penalties for early withdrawals. Since these retirement plans are designed to be long-term investment vehicles, they have the potential to grow significantly thanks to the combination of regular contributions and compound interest.
The 401(k) contributions are automatically deducted from the paycheck, making it easy to systematically and disciplinedly save for retirement without the need to take additional actions.
Contributions before taxes: Contributions to a 401(k) plan are made before taxes are applied, which reduces the worker’s taxable income. This may result in a lower tax payment in the current tax year.
Employer’s contributions:Many employers offer to match employee contributions up to a certain percentage of salary. This is essentially additional money that helps increase the retirement balance at no additional cost to the employee.
Tax-deferred growth: Investments within a 401(k) plan grow tax-free until they are withdrawn. This allows the balance to accumulate more quickly compared to an account subject to annual taxes.
High contribution limits: 401(k) plans allow for higher annual contributions than other types of retirement accounts, such as IRAs. This makes it easier to accumulate a larger retirement fund.
Other Advantages of the 401(k) Plans
Additional Contribution Plans (Catch-Up Contributions): Individuals over the age of 50 can make additional contributions called “catch-up contributions,” allowing them to accumulate more funds in the years approaching retirement.
Diversification of investments: 401(k) plans typically offer a variety of investment options, allowing participants to diversify their portfolio based on their risk tolerance and time horizon.
Loans and withdrawals due to difficulties: Some 401(k) plans allow you to borrow from the account balance or make withdrawals for specific financial difficulties without the usual penalties.
Protection against creditors: The funds in a 401(k) plan are usually protected from creditors, offering an extra layer of financial security in case of economic problems.
