Does 401k Accrue Interest and How It Can Help You Reach Your Retirement Goals

A 401k is a type of retirement savings plan that can help you build wealth over time.

401k plans typically earn interest, which can add up to a significant amount over the years. This interest can come from a variety of sources, including employer matching contributions and investment earnings.

Many employers match a portion of the employee's contributions to their 401k plan, which can be a great way to boost your retirement savings.

Investment earnings can also contribute to your 401k's growth, and it's not uncommon for plans to earn 4-8% per year.

A 401(k) is a type of retirement investment account that allows you to put a percentage of your paycheck into a savings plan. You can choose from a variety of investments, such as target-date funds and mutual funds, offered by your employer's plan provider.

By enrolling in a 401(k) plan, you're agreeing to contribute a percentage of your income to your retirement savings. This money is then invested and can grow tax-deferred, meaning you won't pay taxes on the gains until you withdraw the funds in retirement.

The Secure 2.0 Act aims to help workers save for retirement by requiring employers to automatically enroll eligible employees into existing 401(k) and 403(b) plans, starting in 2025. This means you'll be automatically enrolled at a contribution rate of 3% to 10%, which will increase annually until it reaches a maximum of 15%.

Compound interest is the engine that drives the growth of retirement savings over the long term. It takes into account both the initial investment and the accumulated interest from previous periods.

The beauty of compound interest lies in its compounding effect, where the interest earned in one period becomes part of the principal for the next period, leading to accelerated growth.

For retirement savers, harnessing the power of compound interest means making regular contributions to their 401k accounts and allowing those contributions to accumulate and grow over the course of their careers.

Interest-bearing options in a 401(k) include CDs, money market funds, U.S. treasury bonds, and corporate bonds.

The maximum contribution an individual can make to their 401(k) account in 2023 is $22,500, rising to $23,000 in 2024. Those 50 and older can add $7,500 for both 2023 and 2024.

If your employer offers even a 1% match on your contribution, that can mean substantial growth in the long term thanks to compound interest.

To truly understand the impact of compound interest, let's compare two individuals, John and Sarah, both aged 30, who decide to start saving for retirement. John begins contributing $200 per month to his 401k, while Sarah waits until age 40 to start contributing the same amount.

Assuming an average annual return of 7%, by the time they both reach age 65, John's retirement account will have grown significantly larger than Sarah's due to the extra years of compounding.

Many employers offer matching funds to their employees' 401(k) accounts, which essentially is free money for the fund.

The magic lies in its ability to magnify even small contributions made regularly over time. Whether you're saving for retirement or other long-term financial goals, harnessing the power of compound interest can significantly increase your wealth.

By starting early and making consistent contributions to your retirement account, you give your savings more time to grow and compound.

Here are some interest-bearing options in a 401(k):

Starting early and saving regularly can make a significant difference in your long-term savings. As Example 5 shows, a small investment of $100 at age 25, with monthly additions of $50 for 35 years, can grow to $91,203 by age 60, assuming a 7% rate of return and monthly compounding.

Even small differences in savings can add up over time. For instance, if you contribute just 1% more to your 401(k) each year, it can make a substantial impact on your retirement savings.

The key is to be consistent and patient. Compound growth can help mitigate the risk of inflation and rising costs of living, allowing your savings to grow steadily over time.

Here's an example of how small differences can add up:

As you can see, small increases in contributions can lead to significant growth in your savings over time.

You can select your investments in a 401(k) plan from target-date funds and other mutual funds based on what's offered by your employer's plan provider.

The maximum contribution an individual can make to their 401(k) account in 2023 is $22,500, rising to $23,000 in 2024.

Those 50 and older can add $7,500 for both 2023 and 2024, which can lead to substantial growth in the long term thanks to compound interest.

Even a 1% match on your contribution from your employer can mean substantial growth in the long term thanks to compound interest.

There are two main types of 401(k) plans: traditional and Roth.

Traditional 401(k) plans are more common, but many employers now offer Roth 401(k)s as well.

The main difference between traditional and Roth 401(k)s is their tax advantages.

You get tax benefits with traditional 401(k)s when you contribute the money.

With Roth 401(k)s, you get tax benefits when you make withdrawals in retirement.

If your employer offers a Roth 401(k), you can contribute after-tax income and your withdrawals will be tax-free in retirement.

A Roth 401(k) offers the same tax shield as a traditional 401(k) on your investments when they are in the account: You owe nothing to the IRS on the money as it grows.

You've already paid your taxes since your contributions were made with post-tax dollars, so you owe the IRS nothing when you start taking qualified distributions as long as you are 59 ½ and have held the account for five years or more.

Any income you get from the account — dividends, interest or capital gains — grows tax-free, just like your investments.

You and Uncle Sam are already settled up when you meet the requirements for a qualified withdrawal, which means you won't owe any taxes on your withdrawals.

Mutual funds can be a great way to grow your wealth over time, especially when combined with regular contributions.

Compound growth in mutual funds works similarly to other investments, but with a variable rate of return due to fluctuations in stock and bond prices.

A hypothetical mutual fund with an initial investment of $5,000 could become $40,582.49 in 30 years with an average return of 7% compounded monthly.

Adding monthly contributions of $200 can significantly boost your returns, potentially reaching $284,576.69 in 30 years.

Compound growth returns are taxable unless the money is in a tax-sheltered account, such as a 401(k), where pre-tax earnings are not taxable until retirement.

It's essential to note that the compounding schedule can affect the growth of your investment, even if interest is paid monthly, as seen in bank savings accounts that compound daily.

Long-term investing can be a great way to grow your savings over time. Human Interest calculations can help you estimate how much you'll have in the future, but keep in mind that these are just hypothetical examples and not actual savings accounts.

Investing in a 401k can be a good long-term investment strategy. The interest rate on a 401k is not guaranteed, so it's essential to understand the risks involved.

Some people may be hesitant to start investing due to the uncertainty of interest rates. However, even small, consistent investments can add up over time.

It's also worth noting that the interest rate on a 401k is not the only factor to consider when making investment decisions. Other factors, such as fees and investment options, can also impact your returns.

The 401(k) plan is a great way to save for retirement, but it's essential to understand its benefits and limits. You can contribute up to $23,500 to your 401(k) in 2025, with a catch-up contribution limit of $11,250 for those 60 to 63 years old.

One of the significant advantages of a 401(k) plan is that it offers higher annual contribution limits than individual retirement accounts (IRAs). For those 50 and older, a 401(k) plan maxes out at $31,000 to $34,750, while an IRA tops out at $8,000 annually.

Many employers also offer matching 401(k) contributions, which means free money going into your retirement account. This can be a substantial growth in the long term thanks to compound interest.

Here's a summary of the 2025 401(k) contribution limits:

The maximum contribution to a 401(k) account in 2023 is $22,500, rising to $23,000 in 2024.

If you're 50 or older, you can add an extra $7,500 to your contributions for both 2023 and 2024.

A 1% employer match on your contributions can lead to substantial growth over time, thanks to compound interest.

Compound interest is the key to long-term growth, and it's considered the gold standard of responsible investing.

The 401(k) contribution limits are an important consideration when planning your retirement savings. In 2025, the employee contribution limit is $23,500.

You can contribute up to $23,500 to your 401(k) in 2025, which is a $500 increase from the previous year. The catch-up contribution limit for those 50 and older is $7,500.

If you're 50 or older, you can contribute up to $7,500 to your 401(k) in catch-up contributions. However, thanks to Secure 2.0, those ages 60 to 63 can contribute up to $11,250.

The maximum employee and employer contribution cannot exceed the lesser of $70,000 for those under 50 ($77,500 for those 50 and up) or 100% of employee compensation in 2025.

Here are the 401(k) contribution limits for 2024 and 2025:

It's worth noting that you're not required to contribute the maximum, but it's a good idea to consider contributing enough to get your employer match if one is offered.