Are 401(k)s and IRAs Liquid Assets?

A liquid asset is one that can be converted to cash quickly with little or no loss in value. However, 401(k)s and IRAs alone are not assets. They are a type of retirement account that you fund with investment assets. Ultimately, it is the type of investment that you put inside them that determines whether or not they are considered a liquid asset.

For example, an IRA funded with money market funds would be considered a liquid asset, while one funded with real estate would not because it could take longer to find a buyer, and it could lose value. However, if your goal is to have a comfortable retirement, 401(k)s and IRAs represent two excellent vehicles to help get you there.

401(k)s are a type of company-sponsored retirement plan often called a defined contribution plan. Defined contribution plans are not mandatory and not all companies have them. Those companies that do offer 401(k)s typically set them up so that employees can save for retirement on a pretax basis. This means the amount you invest is deducted from your wages so you pay less in taxes each year you make a contribution.

In addition, the investments you select grow tax-deferred, and you only pay taxes when you take them out. To encourage participation, some employers offer to match part of your contributions, typically 3 to 5 percent, so there is often an opportunity to get some “free money” as you save for retirement. The annual contribution limit for 2018 is $18,500 ($24,500 if you are age 50 or older).

The investment options inside a 401(k) are generally selected by a plan administrator the employer hires, such as Fidelity or Vanguard. They will typically include a mix of mutual funds (stocks, bonds and money markets), and if appropriate, the employer's corporate stock may also be an option. However, they will generally not make specific recommendations. The investments you select are totally up to you, so it’s important to review the information they provide to choose the best options for your situation.

Individual retirement accounts are set up and funded independently by the individual, typically through a bank, brokerage firm or mutual fund company. Like 401(k)s, they grow tax-deferred. However, annual contributions may or may not be tax-deductible, depending on factors such as the type of IRA you set up and your income amount.

There are two basic types of IRAs – traditional and Roth. Traditional IRAs are open to anyone with earned income and may, in some cases, be tax-deductible. Roth IRA contributions, on the other hand, are always made with after-tax money, and withdrawals during retirement are tax-free. Eligibility to participate in Roths is based on your income level. The annual contribution limit for 2018 is $5,500 ($6,500 if you are age 50 or older) for both types of IRAs.

Unlike 401(k)s, in which your investment options are limited by the plan administrator, the sky is the limit for IRAs. Investment options can range from mutual funds to individual stocks to gold and even real estate. With so many options, it's easy to get overwhelmed, but a good strategy is to focus on your goals, your time frame and your risk tolerance level when choosing investments.