6 simple rules for retiring wealthy

A recent study by John Hancock compared the account balances of 401(k) participants who invested in funds with those of employees who selected their own investments from 2002 through 2006. Researchers found that after five years, 81% of workers who picked their own investments would have accumulated higher balances -- about 2 percentage points more, on average -- if they had invested in a life-cycle fund instead.

Broad-based enrollment in a company's retirement plan also benefits high-income employees (those who earn $105,000 or more), who are sometimes prevented from contributing the maximum amount to their 401(k) plan because too few lower-income workers participate. When automatic enrollment is extended to existing workers who are not already in the company plan, participation rates can jump to as high as 95% of those eligible, according to the Retirement Made Simpler study, compared with an average 78% of eligible workers who currently participate in 401(k) plans.

3. Check your progress

When Steve Frazier, a claims supervisor with Society Insurance in Oshkosh, Wis., reached his milestone 50th birthday, he decided it was a good time to figure out whether his retirement savings were on track. Fortunately for him, his company 401(k) provider, the Principal Financial Group, offers free one-on-one financial counseling to all plan participants. Nationally, about 40% of employers offer investment-advisory services to employees.

Frazier and his wife, Ann, gathered all of their financial documents, including life insurance policies, Social Security statements and individual-retirement-account information, and met with a Principal adviser to review their entire financial picture.

"I was a little nervous," says Frazier. "I was afraid they might say I could never afford to retire." Instead, the adviser told him he was on track to quit at 62 and encouraged him to bump up his 401(k) contributions from 7% to 10% of his salary just to be safe.

At 51, Frazier is eligible to add $5,000 in catch-up contributions to his 401(k) this year, for a total of $20,500. With two kids in college, however, cash is tight. "I can't contribute the maximum now, but once the kids are out of school, I may try to save more -- probably in a Roth IRA."

4. Consider a Roth

Most retirement savings vehicles offer upfront tax deductions plus tax-deferred growth on investments. But when you withdraw your money in retirement, you'll owe taxes at your ordinary tax rate, not the lower capital-gains rate reserved for most other long-term investments. The Roth IRA -- and its new cousin, the Roth 401(k) -- operate on the opposite principle: You get no tax break on your contributions now, but all of your withdrawals, including all of your earnings, are tax-free once you are at least 59 years old and the account has been open for at least five years.

Roth IRA contribution limits are the same as for a traditional IRA: $5,000 in 2008, plus an additional $1,000 in catch-up contributions for those 50 and older. But not everyone is eligible. To contribute to a Roth IRA this year, your income can't exceed $116,000 if you are single or $169,000 if you are married and filing jointly.

• Talk back: How do you know if you've saved enough to retire?

Roth 401(k)s, however, have no income-eligibility limits. And now that Congress has made these plans permanent, more employers are starting to offer them. Fewer than one-fourth of employers surveyed by the Profit Sharing/401k Council of America offered Roth 401(k)s in 2007. But among the companies that didn't, more than 60% said they would consider adding a Roth 401(k) option in the future. Roth 401(k)s have the same maximum contribution limits as traditional 401(k) plans: $15,500 in 2008, plus $5,000 in catch-up contributions for those 50 and older.

Younger workers, such as Chance Webre, are prime candidates for a Roth 401(k) because they will benefit from decades of tax-free growth. Webre, 21, a unit operator for Placid Refining in Port Allen, La., also wants to minimize paying taxes today, so he splits his contributions between a traditional 401(k) and a Roth 401(k). (That's OK as long as your total contributions to both don't exceed annual limits.)

Together with his employer's whopping 8% matching contribution, Webre is saving an impressive 24% of his salary.

"Being young and single and living at home, I can afford to stack up all this money right now," he says. "I'm planning for an early retirement at 55."

Webre has a good shot at reaching his goal. If he continues to save aggressively at his current rate for just five years -- and never puts away another dime -- he would have more than $1.2 million by the time he's 55, assuming an 8% annual return.

But Roths aren't just for the young. Older workers who earn too much to qualify for a Roth IRA can still take advantage of tax-free income in retirement through a Roth 401(k). And so can retirees such as Bill Griffith of Dumfries, Va., who converts a little of his traditional IRA to a Roth IRA each year. Although Griffith must pay income taxes on the amount he converts, he thinks the advantages are worth it. He'll avoid mandatory distributions after age 70 -- a requirement for traditional IRAs -- and he'll be able to leave a tax-free legacy to his heirs. Currently, your annual income must be $100,000 or less to convert to a Roth IRA, but that restriction disappears in 2010.

Continued: Roll it over

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