Nov
15
2024
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Required Minimum Distribution (RMD) Rules for 401(k)s

By | Growing Wealth, invest, Investing, Preparing for Retirement | Comments Off on Required Minimum Distribution (RMD) Rules for 401(k)s

When you turn 73, the IRS requires you to start withdrawing money from your 401(k) each year. These withdrawals are called required minimum distributions (or RMDs), and those who don’t take them face potential financial penalties.

The 401(k) RMD rules also apply to other tax-deferred accounts, including traditional IRAs, SIMPLE and SEP IRAs. Roth accounts don’t have RMDs for the account holder.

What’s important to know, as it relates to RMDs from 401(k)s, is that there can be tax consequences if you don’t take them when they’re required — and there are also tax implications from the withdrawals themselves.

Key Points

•   The IRS mandates that individuals must begin withdrawing funds from their 401(k) accounts as required minimum distributions (RMDs) starting at age 73.

•   RMD amounts are determined using IRS life expectancy tables, and failing to withdraw the required amount can result in a 50% penalty on the missed distribution.

•   Although RMDs generally apply to various tax-deferred accounts, Roth IRAs do not require distributions while the owner is alive.

•   Individuals can delay their first RMD until April 1 of the year following their 73rd birthday, but this may lead to higher taxes due to two distributions in one year.

•   Inheriting a 401(k) requires RMDs as well, with specific rules differing for spouses versus non-spouses, including timelines for withdrawals.

What Is an RMD?

While many 401(k) participants know about the early withdrawal penalties for 401(k) accounts, fewer people know about the requirement to make minimum withdrawals once you reach a certain age. Again, these are called required minimum distributions (or RMDs), and they apply to most tax-deferred accounts.

The “required distribution” amount is based on specific IRS calculations (more on that below). If you don’t take the required distribution amount (aka withdrawal) each year you could face another requirement: to pay a penalty of 50% of the withdrawal you didn’t take. However, if you withdraw more than the required minimum each year, no penalty applies.

All RMDs from tax-deferred accounts, like 401(k) plans, are taxed as ordinary income. This is one reason why understanding the amount — and the timing — of RMDs can make a big difference to your retirement income.

What Age Do You Have to Start RMDs?

Prior to 2019, the age at which 401(k) participants had to start taking RMDs was 70½. Under the SECURE Act that was raised to age 72. But the rules have changed again, and the required age to start RMDs from a 401(k) is now 73 — for those who turn 72 after December 31, 2022.

However for those who turned 72 in the year 2022, at that point age 72 was still technically the starting point for RMDs.

But if you turn 72 in 2023, you must wait until you turn 73 (in 2024) to take your first RMD.

In 2033, the age to start taking RMDs will be increased again, to age 75.

How Your First Required Distribution Is Different

There is a slight variation in the rule for your first RMD: You actually have until April 1 of the year after you turn 72 to take that first withdrawal. For example, say you turned 72 in 2022. you would have until April 1, 2023 to take your first RMD.

But you would also have to take the normal RMD for 2023 by December 31 of the same year, too — thus, potentially taking two withdrawals in one year.

Since you must pay ordinary income tax on the money you withdraw from your 401(k), just like other tax-deferred accounts, you may want to plan for the impact of two taxable withdrawals within one calendar year if you go that route.

Why Do Required Minimum Distributions Exist?

Remember: All the money people set aside in defined contribution plans like traditional IRAs, SEP IRAa, SIMPLE IRAs, 401(k) plans, 403(b) plans, 457(b) plans, profit-sharing plans, and so on, is deposited pre-tax. That’s why these accounts are typically called tax-deferred: the tax you owe is deferred until you retire.

So, requiring people to take a minimum withdrawal amount each year is a way to ensure that people eventually pay tax on the money they saved.

How Are RMDs Calculated?

It can get a bit tricky, but 401(k) RMDs are calculated by dividing the account balance in your 401(k) by what is called a “life expectancy factor,” which is basically a type of actuarial table created by the IRS. You can find these tables in Publication 590-B from the IRS.

If you’re married, there are two different tables to be aware of. If you are the original account owner, and if your spouse is up to 10 years younger than you, or is not your sole beneficiary, you’d consult the IRS Uniform Lifetime Table.

If your spouse is the primary beneficiary, and is more than 10 years younger, you’d consult the IRS Joint and Last Survivor table. Here, the RMD might be lower.

How does the life expectancy factor work?

As a simple example, let’s say a 75-year-old has a life expectancy factor of 24.6, according to the IRS. If that person has a portfolio valued at $500,000, they’d have to take an RMD of $20,325 ($500,000/24.6) from their account that year.

RMDs can be withdrawn in one sum or numerous smaller payments over the course of a year, as long as they add up to the total amount of your RMD requirement for that calendar year.

RMD Rules for 401(k) Plans

So just to recap, here are the basic RMD rules for 401(k) plans. Because these rules are complicated and exceptions may apply, it may be wise to consult with a professional.

Exceptions to Required Distributions

There aren’t many exceptions to 401(k) RMDs. In fact, there’s really only one.

If you’re working for the company sponsoring your 401(k) when you turn 73 years old (as of 2023), and you don’t own more than 5% of the firm, you may be able to skirt RMDs. That is, so long as you keep working for the company, and as long as your plan allows you to do so — not all will.

This only applies to 401(k)s. So if you’re weighing your options as it relates to a 401(a) vs 401(k), for instance, you’ll find they’re limited.

At What Age Do RMDs Start?

As mentioned, you must take your first RMD the same year you turn age 73, with the new rules being applied for 2023 under the SECURE ACT 2.0. Again: for your first RMD only, you are allowed to delay the withdrawal until April 1 of the year after you turn 73.

This has pros and cons, however, because the second RMD would be due on December 31 of that year as well. For tax purposes, you might want to take your first RMD the same year you turn 73, to avoid the potentially higher tax bill from taking two withdrawals in the same calendar year.

What Are RMD Deadlines?

Aside from the April 1 deadline available only for your first RMD, the regular deadline for your annual RMD is December 31 of each year. That means that by that date, you must withdraw the required amount, either in a lump sum or in smaller increments over the course of the year.

Calculating the Correct Amount of Your RMD

Also as discussed, the amount of your RMD is determined by tables created by the IRS based on your life expectancy, the age of your spouse, marital status, and your spouse’s age.

You’re not limited to the amount of your RMD, by the way. You can withdraw more than the RMD amount at any point. These rules are simply to insure minimum withdrawals are met. Also keep in mind that if you withdraw more than the RMD one year, it does not change the RMD requirement for the next year.

Penalties

The basic penalty, if you miss or forget to take your required minimum distribution from your 401(k), is 50% of the amount you were supposed to withdraw.

For example, let’s say you were supposed to withdraw a total of $10,500 in a certain year, but you didn’t; in that case you could potentially get hit with a 50% penalty, or $5,250. But let’s say you’ve taken withdrawals all year, but you miscalculated and only withdrew $7,300 total.

Then you would owe a 50% penalty on the difference between the amount you withdrew and the actual RMD amount: $10,500 – $7,300 = $3,200 x .50 = $1,600

How Did COVID Change RMD Rules?

The pandemic ushered in some RMD rule changes for a time, and it may be easy to get mixed up given those changes. But you should know that things are more or less back to “normal” now (as of 2021) as it relates to RMD rules, so you’ll need to plan accordingly.

As for that rule change: There was a suspension of all RMDs in 2020 owing to COVID. Here’s what happened, and what it meant for RMDs at the time:

•   First, in 2019 the SECURE Act changed the required age for RMDs from 70½ to 72, to start in 2020.

•   But when the pandemic hit in early 2020, RMDs were suspended entirely for that year under the CARES Act. So, even if you turned 72 in the year 2020 — the then-new qualifying age for RMDs that year — RMDs were waived.

Again, as of early 2021, required minimum distributions were restored. So here’s how it works now, taking into account the 2020 suspension and the new age for RMDs.

•   If you were taking RMDs regularly before the 2020 suspension, you needed to resume taking your annual RMD by December 31, 2021.

•   If you were eligible for your first RMD in 2019 and you’d planned to take your first RMD by April 2020, but didn’t because of the waiver, you should have taken that RMD by December 31, 2021.

•   If you turned 72 in 2020, and were supposed to take an RMD for the first time, then you could have had until April 1, 2022 to take that first withdrawal. (But you could have taken that first withdrawal in 2021, to avoid the tax burden of taking two withdrawals in 2022.)

RMDs When You Have Multiple Accounts

If you have multiple accounts — e.g. a 401(k) and two IRAs — you would have to calculate the RMD for each of the accounts to arrive at the total amount you’re required to withdraw that year. But you would not have to take that amount out of each account. You can decide which account is more advantageous and take your entire RMD from that account, or divide it among your accounts by taking smaller withdrawals over the course of the year.

What Other Accounts Have RMDs?

While we’re focusing on 401(k) RMDs, there are numerous other types of accounts that require them as well. As of 2023, RMD rules apply to all employer-sponsored retirement accounts, according to the IRS — a list that includes IRAs (SEP IRAs, SIMPLE IRAs, and others), but not Roth IRAs while the owner is alive (more on that in a minute).

So, if you have an employer-sponsored retirement account, know that the IRA withdrawal rules are more or less the same as the rules for a 401(k) RMD.

Allocating Your RMDs

Individuals can also decide how they want their RMD allocated. For example, some people take a proportional approach to RMD distribution. This means a person with 30% of assets in short-term bonds might choose to have 30% of their RMD come from those investments.

Deciding how to allocate an RMD gives an investor some flexibility over their finances. For example, it might be possible to manage the potential tax you’d owe by mapping out your RMDs — or other considerations.

Do Roth 401(k)s Have RMDs?

Yes, Roth 401(k) plans do have required minimum distributions, and this is an important distinction between Roth 401(k)s and Roth IRAs. Even though the funds you contribute to a Roth 401(k) are already taxed, you are still required to take RMDs, following the same life expectancy factor charts provided by the IRS for traditional 401(k)s and IRAs.

The big difference being: You don’t owe taxes on the RMDs from a Roth 401(k). You deposit after-tax dollars, and withdrawals are still tax free as they are with an ordinary Roth IRA account.

If you have a Roth IRA, however, you don’t have to take any RMDs, but if you bequeath a Roth it’s another story. Since the rules surrounding inherited IRAs can be quite complicated, it’s wise to get advice from a professional.

Can You Delay Taking an RMD From Your 401(k)?

As noted above, there is some flexibility with your first RMD, in that you can delay your first RMD until April 1 of the following year. Just remember that your second RMD would be due by December 31 of that year as well, so you’d be taking two taxable withdrawals in the same year.

Also, if you are still employed by the sponsor of your 401(k) (or other employer plan) when you turn 73, you can delay taking RMDs until you leave that job or retire.

RMD Requirements for Inherited 401(k) Accounts

Don’t assume that RMDs are only for people in or near retirement. RMDs are usually required for those who inherit 401(k)s as well. The rules here can get quite complicated, depending on whether you are the surviving spouse inheriting a 401(k), or a non-spouse. In most cases, the surviving spouse is the legal beneficiary of a 401(k) unless a waiver was signed.

Inheriting a 401(k) From Your Spouse

If you’re the spouse inheriting a 401(k), you can rollover the funds into your own existing 401(k), or you can rollover the funds into what’s known as an “inherited IRA” — the IRA account is not inherited, but it holds the inherited funds from the 401(k). You can also continue contributing to the account.

Then you would take RMDs from these accounts when you turned 73, based on the IRS tables that apply to you.

Recommended: What Is a Rollover IRA vs. a Traditional IRA?

Inheriting a 401(k) From a Non-Spouse

If you inherit a 401(k) from someone who was not your spouse, you cannot rollover the funds into your own IRA.

You would have to take RMDs starting Dec. 31 of the year after the account holder died. And you would be required to withdraw all the money from the account within five or 10 years, depending on when the account holder passed away.

The five-year rule comes into play if the person died in 2019 or before; the 10-year rule applies if they died in 2020 or later.

Other Restrictions on Inherited 401(k) Accounts

Bear in mind that the company which sponsored the 401(k) may have restrictions on how inherited funds must be handled. In some cases, you may be able to keep 401(k) funds in the account, or you might be required to withdraw all funds within a certain time period.

In addition, state laws governing the inheritance of 401(k) assets can come into play.

As such, if you’ve inherited a 401(k), it’s probably best to consult a professional who can help you sort out your individual situation.

How to Avoid RMDs on 401(k)s

While a 401(k) grows tax-free during the course of an investor’s working years, the RMDs withdrawal is taxed at their current income tax rate. One way to offset that tax liability is for an investor to consider converting a 401(k) into a Roth IRA in the years preceding mandatory RMDs. Roth IRAs are not subject to RMD rules.

What Is a Roth Conversion?

A Roth conversion can be done at any point during an investor’s life, and can be done with all of the 401(k) funds or a portion of it.

Because a 401(k) invests pre-tax dollars and a Roth IRA invests after-tax dollars, you would need to pay taxes right away on any 401(k) funds you converted to a Roth. But the good news is, upon withdrawing the money after retirement, you don’t have to pay any additional taxes on those withdrawals. And any withdrawals are at your discretion because there are no required distributions.

Paying your tax bill now rather than in the future can make sense for investors who anticipate being in a higher tax bracket during their retirement years than they are currently.

The Backdoor Roth Option

Converting a 401(k) can also be a way for high earners to take advantage of a Roth. Traditional Roth accounts have an income cap. To contribute the maximum to a Roth IRA in 2023, your modified adjusted gross income (MAGI) must be less than $138,000 if you’re single, less than $228,000 if you’re married filing jointly, with phaseouts if your income is higher. But those income rules don’t apply to Roth conversions (thus they’re sometimes called the “backdoor Roth” option).

Once the conversion occurs and a Roth IRA account is opened, an investor needs to follow Roth rules: In general, withdrawals can be taken after an account owner has had the account for five years and the owner is older than 59 ½, barring outside circumstances such as death, disability, or first home purchase.

What Should an Investor Do With Their RMDs?

How you use your RMD funds depends on your financial goals. Fortunately, there are no requirements around how you spend or invest these funds (with the possible exception that you cannot take an RMD and redeposit it in the same account).

•   Some people may use their RMDs for living expenses in their retirement years. If you plan to use your RMD for income, it’s also smart to consider the tax consequences of that choice in light of other income sources like Social Security.

•   Other people may use their 401(k) RMDs to fund a brokerage account and continue investing. While you can’t take an RMD and redeposit it, it’s possible to directly transfer your RMD into a taxable account. You will still owe taxes on the RMD, but you could stay invested in the securities in the previous portfolio.

Reinvesting RMDs might provide a growth vehicle for retirement income. For example, some investors may look to securities that provide a dividend, so they can create cash flow as well as maintain investments.

•   Investors also may use part of their RMD to donate to charity. If the funds are directly transferred from the IRA to the charity (instead of writing out a check yourself), the donation will be excluded from taxable income.

While there is no right way to manage RMDs, coming up with a plan can help insure that your money continues to work for you, long after it’s out of your original 401(k) account.

The Takeaway

Investors facing required minimum distributions from their 401(k) accounts may want to fully understand what the law requires, figure out a game plan, and act accordingly. While there are a lot of things to consider and rules to reference, ignoring 401(k) RMDs can result in sizable penalties.

Even if you’re not quite at the age to take RMDs, you may want to think ahead so that you have a plan for withdrawing your assets that makes sense for you and your loved ones. It can help to walk through the many different requirements and options you have as an account holder, or if you think you might inherit a 401(k).

As always, coming up with a financial plan depends on knowing one’s options and exploring next steps to find the best fit for your money. If you’re opening a retirement account such as an IRA or Roth IRA, you can do so at a brokerage, bank, mutual fund house, or other financial services company, like SoFi Invest®.

Help grow your nest egg with a SoFi IRA.

FAQ

Is my 401(k) subject to RMDs?

Yes, with very few exceptions, 401(k)s are subject to RMDs after its owner reaches age 73, as of 2023. What those RMDs are, exactly, varies depending on several factors.

How to calculate your RMD for your 401(k)?

It’s not an easy calculation, but RMDs are basically calculated by dividing the owner’s account balance by their life expectancy factor, which is determined by the IRS. That will give you the amount you must withdraw each year, or face a penalty.

Can you avoid an RMD on your 401(k)?

You can, if you’re willing to convert your traditional 401(k) account to a Roth IRA. Roth IRAs do not require RMDs, but you will owe taxes on the funds you convert.

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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Nov
15
2024
401(k) Catch-Up Contributions: What Are They & How Do They Work?

401(k) Catch-Up Contributions: What Are They & How Do They Work?

By | invest, Investing, Preparing for Retirement | Comments Off on 401(k) Catch-Up Contributions: What Are They & How Do They Work?

Retirement savers age 50 and older get to put extra tax-advantaged money into their 401(k) accounts beyond the standard annual contribution limits. Those additional savings are known as “catch-up contributions.”

If you have a 401(k) at work, taking advantage of catch-up contributions is key to making the most of your plan, especially as retirement approaches. Here’s a closer look at how 401(k) catch-up limits work.

Key Points

•   Individuals aged 50 and older can contribute additional funds to their 401(k) accounts through catch-up contributions.

•   The catch-up contribution limit is $7,500 for both 2023 and 2024, allowing eligible participants to save a total of $30,000 in 2023 and $30,500 in 2024.

•   Catch-up contributions can be made to various retirement accounts, including 401(k) plans, 403(b) plans, and IRAs, providing flexibility in retirement savings.

•   Utilizing catch-up contributions effectively can help older savers offset previous under-saving and better prepare for retirement expenses.

What Is 401(k) Catch-Up?

A 401(k) is a type of defined contribution plan. This means the amount you can withdraw in retirement depends on how much you contribute during your working years, along with any employer matching contributions you may receive, as well as how those funds grow over time.

There are limits on how much employees can contribute to their 401(k) plan each year as well as limits on the total amount that employers can contribute. The regular employee contribution limit is $22,500 for 2023 and $23,000 for 2024. This is the maximum amount you can defer from your paychecks into your plan — unless you’re eligible to make catch-up contributions.

Under Internal Revenue Code Section 414(v), a catch-up contribution is defined as a contribution in excess of the annual elective salary deferral limit. For 2023 and 2024, the 401(k) catch-up contribution limit is $7,500.

That means if you’re eligible to make these contributions, you would need to put a total of $30,000 in your 401(k) in 2023 to max out the account and $30,500 in 2024. That doesn’t include anything your employer matches.

Congress authorized catch-up contributions for retirement plans as part of the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA). The legislation aimed to help older savers “catch up” and avoid falling short of their retirement goals, so they can better cover typical retirement expenses and enjoy their golden years.

Originally created as a temporary measure, catch-up contributions became a permanent feature of 401(k) and other retirement plans following the passage of the Pension Protection Act in 2006.

Who Is Eligible for 401(k) Catch-Up?

To make catch-up contributions to a 401(k), you must be age 50 or older and enrolled in a plan that allows catch-up contributions, such as a 401(k).

The clock starts ticking the year you turn 50. So even if you don’t turn 50 until December 31, you could still make 401(k) catch-up contributions for that year, assuming your plan follows a standard calendar year.

Making Catch-Up Contributions

If you know that you’re eligible to make 401(k) catch-up contributions, the next step is coordinating those contributions. This is something with which your plan administrator, benefits coordinator, or human resources director can help.

Assuming you’ve maxed out your 401(k) regular contribution limit, you’d have to decide how much more you want to add for catch-up contributions and adjust your elective salary deferrals accordingly. Remember, the regular deadline for making 401(k) contributions each year is December 31.

It’s possible to make catch-up contributions whether you have a traditional 401(k) or a Roth 401(k), as long as your plan allows them. The main difference between these types of plans is tax treatment.

•   You fund a traditional 401(k) with pre-tax dollars, including anything you save through catch-up contributions. That means you’ll pay ordinary income tax on earnings when you withdraw money in retirement.

•   With a Roth 401(k), regular contributions and catch-up contributions use after-tax dollars. This allows you to withdraw earnings tax-free in retirement, which is a valuable benefit if you anticipate being in a higher tax bracket when you retire.

You can also make catch-up contributions to a solo 401(k), a type of 401(k) used by sole proprietorships or business owners who only employ their spouse. This type of plan observes the same annual contribution limits and catch-up contribution limits as employer-sponsored 401(k) plans. You can choose whether your solo 401(k) follows traditional 401(k) rules or Roth 401(k) rules for tax purposes.

401(k) Catch-Up Contribution Limits

Those aged 50 and older can make catch-up contributions not only to their 401(k) accounts, but also to other types of retirement accounts, including 403(b) plans, 457 plans, SIMPLE IRAs, and traditional or Roth IRAs.

The IRS determines how much to allow for elective salary deferrals, catch-up contributions, and aggregate employer and employee contributions to retirement accounts, periodically adjusting those amounts for inflation. Here’s how the IRS retirement plan contribution limits for 2023 add up:

Retirement Plan Contribution Limits in 2023
Annual Contribution Catch Up Contribution Total Contribution for 50 and older
Traditional, Roth and solo 401(k) plans; 403(b) and 457 plans $22,500 $7,500 $30,000
Defined Contribution Maximum, including employer contributions $66,000 $7,500 $73,500
SIMPLE IRA $15,000 $3,500 $18,500
Traditional and Roth IRA $6,500 $1,000 $7,500

These amounts only include what you contribute to your plan or, in the case of the defined contribution maximum, what your employer contributes as a match. Any earnings realized from your plan investments don’t count toward your annual or catch-up contribution limits.

Also keep in mind that employer contributions may be subject to your company’s vesting schedule, meaning you don’t own them until you’ve reached certain employment milestones.

Tax Benefits of Making Catch-Up Contributions

Catch-up contributions to 401(k) retirement savings allow you to save more money in a tax-advantaged way. The additional money you can set aside to “catch up” on your 401(k) progress enables you to save on taxes now, as you won’t pay taxes on the amount you contribute until you withdraw it in retirement. These savings can add up if you’re currently in a high tax bracket, offsetting some of the work of saving extra.

The amount you contribute will also grow tax-deferred, and making catch-up contributions can result in a sizable difference in the size of your 401(k) by the time you retire. Let’s say you start maxing out your 401(k) plus catch-up contributions as soon as you turn 50, continuing that until you retire at age 65. That would be 15 years of thousands of extra dollars saved annually.

Those extra savings, thanks to catch-up contributions, could easily cross into six figures of added retirement savings and help compensate for any earlier lags in saving, such as if you were far off from hitting the suggested 401(k) amount by 30.

Roth 401(k) Catch-Up Contributions

The maximum amount you can contribute to a Roth 401(k) is the same as it is for a traditional 401(k): $22,500 and, if you’re 50 or older, $7,500 in catch-up contributions, as of 2023. For 2024, it is $23,000 and, if you’re 50 or older, $7,500 in catch-up contributions. This means that if you’re age 50 and up, you are able to contribute a total of $30,000 to your Roth 401(k) in 2023 and $30,500 in 2024.

If your employer offers both traditional and Roth 401(k) plans, you may be able to contribute to both, and some may even match Roth 401(k) contributions. Taking advantage of both types of accounts can allow you to diversify your retirement savings, giving you some money that you can withdraw tax-free and another account that’s grown tax-deferred.

However, if you have both types of 401(k) plans, keep in mind while managing your 401(k) that the contribution limit applies across both accounts. In other words, you can’t the maximum amount to each 401(k) — rather, they’d share that limit.

The Takeaway

Putting money into a 401(k) account through payroll deductions is one of the easiest and most effective ways to save money for your retirement. To determine how much you need to put into that account, it helps to know how much you need to save for retirement. If you start early, you may not need to make catch-up contributions. But if you’re 50 or older, taking advantage of 401(k) catch-up contributions is a great way to turbocharge your tax-advantaged retirement savings.

Of course, you can also add to your retirement savings with an IRA. While a 401(k) has its advantages, including automatic savings and a potential employer match, it’s not the only way to grow retirement wealth. If you’re interested in a traditional, Roth, or SEP IRA, you can easily open an IRA account on the SoFi Invest® brokerage platform. If you’re age 50 or older, those accounts will also provide an opportunity for catch-up contributions.

Help grow your nest egg with a SoFi IRA.

FAQ

How does the 401(k) catch-up work?

401(k) catch-up contributions allow you to increase the amount you are allowed to contribute to your 401(k) plan on an annual basis. Available to those aged 50 and older who are enrolled in an eligible plan, these catch-contributions are intended to help older savers meet their retirement goals.

What is the 401(k) catch-up amount in 2023?

For 2023, the 401(k) catch-up contribution limit is $7,500.

Photo credit: iStock/1001Love

SoFi Invest®

INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE

SoFi Invest encompasses two distinct companies, with various products and services offered to investors as described below: Individual customer accounts may be subject to the terms applicable to one or more of these platforms.
1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
2) Active Investing and brokerage services are provided by SoFi Securities LLC, Member FINRA (www.finra.org)/SIPC(www.sipc.org). Clearing and custody of all securities are provided by APEX Clearing Corporation.
For additional disclosures related to the SoFi Invest platforms described above please visit SoFi.com/legal.
Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

Tax Information: This article provides general background information only and is not intended to serve as legal or tax advice or as a substitute for legal counsel. You should consult your own attorney and/or tax advisor if you have a question requiring legal or tax advice.

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Nov
15
2024
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What Is After-Hours Trading?

By | Financial Independence, Growing Wealth, Investing | No Comments

After-hour trading is stock trading that occurs after the normal close of the trading session. Ordinarily, stock trading begins at 9:30 am ET and ends at 4 pm ET, Monday through Friday. The after-hours trading period begins following the close of regular trading at 4 pm and ends at 8 pm.

Trading after hours may appeal to investors who have limited time to trade during the day or want to take advantage of overnight market movements. If you’re new to trading stocks or even if you know some of the investing basics, aftermarket trading can still be a confusing concept to understand. Understanding what happens with the stock market after hours can help answer those questions.

Why Is Access to After-Hours Trading Important?

After-hours trading allows investors to respond to news and events that occur after regular stock market hours. This can be important because it will enable investors to take advantage of opportunities that may not be available during regular trading hours.

For example, if a company announces a significant acquisition after the markets have closed, investors who can trade after-hours will be able to buy shares of the company before the news is reflected in the stock price during regular trading hours. Knowing regular and after-market hours, among other things regarding stock market basics, can help investors become more knowledgeable in their trading strategy, too.

Market Hours Schedule

Stock exchanges operate on a regular schedule during which investors can buy and sell securities. The New York Stock Exchange (NYSE) and Nasdaq are open between 9:30 am and 4 pm ET. Most stock trading occurs during these normal business hours.

After-hours trading does not follow this schedule, however.

How Does After-Hours Trading Work?

After-hours trading is what it sounds like: buying and selling stocks after the stock market has closed. However, unlike standard hours trading, after-hours trading is conducted through computerized trading systems called electronic communications networks (ECNs). Traders generally access ECNs through their preferred brokerage.

After-hours trading generally lasts four hours, from 4-8pm ET on weekdays. However, the precise time of after-hours trading depends on the specific brokerage that an investor uses.

Pre-Market Trading

Pre-Market trading occurs from 4-9:30 am ET on weekdays. After-hours and pre-market trading is sometimes called “extended-hours trading.”

Some online brokerages take after-hours trading a step further and offer 24/7 stock trading. This allows investors to make trades during the gap between after-hours trading and pre-market trading. The advantage of 24/7 trading is that investors are not bound by the regular market hours schedule for making trades.

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Potential Advantages of After-Hours Trading

After-hours trading provides investors with several advantages over regular trading alone.

Convenience

One of the benefits of trading later in the day is convenience. If you’re busy with other pursuits during business hours or live in a different time zone, this might be a more optimal time to buy and sell stocks.

Leveraging New Information

Another potential advantage is the opportunity to take action based on new information, such as a company’s earnings report or a major news event, without having to wait for the market to reopen.

Potential for Cheaper Prices

Investors can sometimes find lower prices for individual stocks or exchange-traded funds (ETFs) during after-hours trading. This may reflect lower competition since fewer people are trading, but it’s far from guaranteeing you’ll get better prices.

Cons of After-Hours Trading

Buying and selling stocks outside regular trading hours come with risks and disadvantages.

Fewer Transactions Happen After-Hours

There are fewer transactions happening after-hours than while the stock market is open, which can affect the market’s liquidity.

Since there are fewer people buying and selling stocks, finding someone who wants to trade at the price you have in mind can be challenging. Likewise, getting a hold of a stock you want can be hard when trading volume is low. The trade will be canceled if there is no counterparty available for a trade you want.

Prices Are More Volatile

Another drawback is that prices are more volatile after-hours. Although it’s normal for the stock market to fluctuate, you tend to see much wider swings in price after-hours than during the typical trading day.

This is partly a result of lower liquidity: Since fewer people are participating in the market, trades may significantly affect a stock’s price due to wider bid-ask spreads.

Stock price volatility can also result from many people reacting quickly to major news or announcements. A company’s share price can climb in response to a news event after-hours and then fall dramatically as soon as markets open. Prices adjust after more information becomes available, or investors get the chance to digest it more thoroughly. And with major ups and downs, of course, comes greater risk and potential for losses.

Best Prices May Differ

Another thing to consider is that you might not be able to confirm the best available price during after-hours trading. During regular hours, brokerages must offer the best possible price at that time. However, this doesn’t extend into after-hours, and the share price you see in one place may differ from the one you see in another.

After-Hours Trading vs Standard Trading

Here’s a quick breakdown of the differences between after-hours trading and standard trading:

After-Hours Trading

 Standard Trading
Trading occurs between 4-8 pm ET Trading occurs between 9:30 am and 4 pm ET
Trades conducted through ECNs Trades conducted through stock exchanges and market makers
Trades may not be completed due to low volume and liquidity Trades are generally executed quickly because of large trading volume and liquidity
Only certain stocks and ETFs available for trading A wide range of assets, like stocks, ETFs, mutual funds, and options, are available for trading

Is After-Hours Trading the Same Thing as Late-Day Trading?

Investors should be aware that after-hours trading differs from late-day trading. Late-day trading is an illegal practice in which mutual fund managers allow hedge funds to record some trades made after-hours as having happened right before closing during regular hours.

Late-day trading pushes up the mutual fund’s net asset value, which summarizes how much the fund is worth at the end of the trading day. When the net asset value (NAV) increases the following day to reflect those late-day trades, the hedge funds can sell the shares they bought at a higher price.

After-hours trading itself is considered ethical and is legal.

Recommended: What Is Market Manipulation?

Access to Features When Trading After-Hours

After-hours trading typically only allows limit orders. Limit orders generally protect investors from unexpectedly bad prices, which are more likely to occur during after-hours trading than standard trading.

Stop, stop-limit, or orders with special instructions are not usually accepted. Moreover, orders are typically only good for the after-hours trading session in which they’re placed; if a trade is not executed during the session, it is usually canceled.

Additionally, only certain stocks and ETFs are available for after-hours trading. Trading bonds, mutual funds, and options are not allowed during after-hours.

Is It Bad to Trade After Hours?

Trading stocks after hours is neither bad nor good. But whether it makes sense for you to engage in after-hour trading can depend on your risk tolerance and investment goals.

As mentioned, the stock market after hours can be more volatile than regular trading hours. You could expose yourself to greater risk by trading stocks after the closing bell. Increased volatility can also make it more difficult to gauge how likely limit orders are to be executed.

Pricing risk could also cause you to pay more for securities after hours than during the regular trading day. In that scenario, you’d get less value for your investment dollars. So it’s important to consider how much of your time you’re willing to devote to watching the after-hours market and how much risk you’re willing to accept.

Does After-Hours Trading Affect Opening Price?

After-hours trading can affect a stock’s opening price. Buying and selling activity can influence a stock’s price during normal market hours. The same is true for aftermarket trading.

A stock could close at one price point during regular trading hours but have a different open price once the new trading day begins. Whether this price difference is negligible or significant depends on how much trading activity occurred after hours and what motivated the activity.

For example, price fluctuations between the regular day’s closing and the next day’s opening could be more substantial if investors get wind overnight that a company is planning a merger or has a scandal brewing. Likewise, if a company’s earnings miss expectations or the Federal Reserve makes an announcement about interest rates, those things could affect stock pricing after hours.

Recommended: What Determines Stock Price?

Is After-Hours Trading a Good Indicator of Market Sentiment?

After-hours trading activity could help investors gauge where the market will start on the next trading day. But it’s important to remember that this is a short-term prediction at best, as pricing can change at a moment’s notice.

Investor attitudes and behaviors can quickly shift the market’s momentum and stock prices along with it. Again, something as simple as the release of an earnings report or the announcement of an acquisition could affect a stock’s price. So rather than focusing on aftermarket trading as a sole indicator of what a stock may do next, it’s important to look at the bigger picture.

If you’re primarily a day trader, learning some technical analysis basics can help you become more attuned to market trends and how to interpret them when making investment decisions.

Recommended: Day Trading Strategies

The Takeaway

If you are a hands-on investor and want to experiment, exploring after-hours trading may be an additional way to make trades. However, for most investors who don’t actively manage their investments and want to minimize risk, there may be better strategies than after-hours trading. Instead, they may want to feel confident that they’re investing their money with less risk, building wealth for long-term financial goals.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).


For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

FAQ

When does after-hours trading for SoFi start?

SoFi offers extended-hours trading, where investors can place limit orders during after-hours starting at 4 pm.

When does after-hours trading for SoFi end?

SoFi offers extended-hours trading, where investors can place limit orders after-hours ending at 8 pm.

What are the benefits of trading after-hours?

Some benefits of trading after-hours include the convenience of trading when the markets are closed and having the opportunity to make trades right after an important news event breaks.

SoFi Invest®

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Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.

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15
2024
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Federal Reserve Interest Rates, Explained

By | invest, Investing, Terminology | No Comments

The Federal Reserve, or “Fed,” can change the federal funds rate as a tool to sway the economy. For instance, when inflation is high, it can raise interest rates to attempt to curb overall demand in the economy, hopefully lowering prices. As of November 2024, the current federal funds rate is between 4.75% and 5.00%. That rate can affect other interest rates throughout the economy, such as those tied to mortgages, auto loans, and more.

There’s a connection between the Fed’s interest rate decisions, the national economy, and your personal finances. The Fed works to help balance the economy over time — and its actions and influence on monetary policy can affect household finances. Here’s what consumers should know about the Federal Reserve interest rate and how it trickles down to the level of individual wallets.

What Is the Federal Funds Rate?

The federal funds rate, or federal interest rate, is a target interest rate assessed on the bank-to-bank level. It’s the rate at which banks charge each other for loans borrowed or lent overnight.

The federal funds rate is not directly connected to consumer interest rates, like those that might be paid on a personal loan or mortgage. But it can significantly influence those interest rates and, over time, can impact how businesses and individuals access lines of credit.

How Is the Federal Funds Rate Set?

The Federal Open Market Committee (FOMC) sets the federal funds rate. The FOMC is a 12-member group made up of seven members of the Board of Governors of the Federal Reserve System; the president of the Federal Reserve Bank of New York; and four of the remaining eleven Reserve Bank presidents, who serve one-year terms on a rotating basis.

The FOMC meets a minimum of eight times per year — though the committee will meet more often than that if deemed necessary. The group decides the Fed’s interest rate policy based on key economic indicators that may show signs of inflation, rising unemployment, recession, or other issues that may impact economic growth.

The FOMC often slashes rates in response to market turmoil as an attempt to boost the economy. Lower rates may make it easier for businesses and individuals to take out loans, thus stimulating the economy through more spending. The Federal Reserve enacted a zero-interest rate policy in 2008 and maintained it for seven years to boost the economy following the Great Recession, for example.

On the other hand, the FOMC may raise interest rates when the economy is strong to prevent an overheated economy and keep inflation in check. Higher interest rates make borrowing more expensive, disincentivizing businesses and households from taking out loans for consumption and investment. Because of this, higher interest rates, theoretically, can cool the economy.

Current Federal Funds Rate

As noted above, the current federal funds rate is between 4.75% and 5.00% as of early November 2024. The FOMC raised interest rates rapidly throughout 2022 in an effort to bring down inflation, which was at the country’s highest levels since the 1980s. But in the fall of 2024, it issued a rate cut for the first time since the start of the pandemic in early 2020.

The federal funds rate is a recommended target — banks can ultimately negotiate their own rate when borrowing and lending from one another. Over the years, federal fund targets have varied widely depending on the economic outlook. The federal funds rate was as high as 20% in the early 1980s due to inflation and as low as 0.0% to 0.25% in the post-pandemic environment, when the Fed used its monetary policy to stimulate the economy.

How Does the Fed Influence the Economy?

The Federal Reserve System is the U.S. central bank. The Fed is the primary regulator of the U.S. financial system and is made up of a dozen regional banks, each of which is localized to a specific geographical region in the country.

The Fed has a wide range of financial duties and powers to take measures to ensure systemic financial and economic stability. These duties include:

•  Maintaining widespread financial stability, in part by setting interest rates

•  Supervising and regulating smaller banks

•  Conducting and implementing national monetary policy

•  Providing financial services like operating the national payments system

The Fed has authority over other U.S. banking institutions and can regulate them in order to protect consumers’ financial rights. But perhaps its most famous job is setting its interest rate, otherwise known as the federal funds rate.

Recommended: How Do Federal Reserve Banks Get Funded?

How Does the Federal Funds Rate Affect Interest Rates?

Although the federal funds rate doesn’t directly influence the interest levels for loans taken out by consumers, it can change the dynamics of the economy as a whole through a kind of trickle-down effect.

The Fed’s rate changes impact a broad swath of financial areas — from credit cards to mortgages, from savings rates to life insurance policies. The Fed’s rate change can affect individual consumers in various ways. They can also affect the stock market, which may have an outsized impact on those who are online investing or otherwise have money in the markets.

The Prime Rate

A change to the federal funds rate can influence the prime interest rate (also known as the Bank Prime Loan Rate). The prime interest rate is the rate banks offer their most creditworthy customers when they’re looking to take out a line of credit or a loan.

While each bank is responsible for setting its own prime interest rate, many banks choose to set theirs mainly based on the federal funds rate.

Generally, the rate is set approximately three percentage points higher than the federal funds rate—so, for example, if the rate is at 5.00%, a bank’s prime interest rate might be 8.00%.

Even for consumers who don’t have excellent credit, the prime interest rate is important; it’s the baseline from which all of a bank’s loan tiers are calculated.

That applies to a wide range of financial products, including mortgages, credit cards, automobile loans, and personal loans. It can also affect existing lines of credit that have variable interest rates.

Savings Accounts and Certificates of Deposit

Interest rates bend both ways. Although a federal rate hike may mean a consumer sees higher interest rates when borrowing, it also means the interest rates earned through savings, certificates of deposit (CDs), and other interest-bearing accounts will increase.

In many cases, this increase in interest earnings influences consumers to save more, which can help as an incentive to build and maintain an emergency fund that one can access immediately, if necessary.

How Does the Federal Funds Rate Affect the Stock Market?

While the federal funds rate has no direct impact on the stock market, it can have the same kind of indirect, ripple effect that is felt in other areas of the U.S. financial system.

Generally, lower rates make the market more attractive to investors looking to maximize returns. Because investors cannot get an attractive rate in a savings account or with lower-risk bonds, they will put money into higher-risk assets like growth stocks to get an ideal return. Plus, cheaper or more available money can translate to more spending and higher company earnings, resulting in rising stock performance.

On the other hand, higher interest rates tend to dampen the stock market since investors usually prefer to invest in lower-risk assets like bonds that may offer an attractive yield in a high-interest rate environment.

Recommended: How Do Interest Rates Impact Stocks?

What Other Factors Affect Consumer Interest Rates?

Although the Federal Reserve interest rate can impact personal finance basics in various ways, it may take up to 12 months to feel the full effect of a change.

On a consumer level, financial institutions use complex algorithms to calculate interest rates for credit cards and other loans. These algorithms consider everything from personal creditworthiness to loan convertibility to the prime interest rate to determine an individual’s interest rate.

The Takeaway

The federal funds rate — or federal interest rate — set by the Federal Reserve is intended to guide bank-to-bank loans but ends up impacting various parts of the national economy—down to individuals’ personal finances.

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Better banking is here with SoFi, NerdWallet’s 2024 winner for Best Checking Account Overall.* Enjoy up to 4.00% APY on SoFi Checking and Savings.

SoFi members with direct deposit activity can earn 4.00% annual percentage yield (APY) on savings balances (including Vaults) and 0.50% APY on checking balances. Direct Deposit means a recurring deposit of regular income to an account holder’s SoFi Checking or Savings account, including payroll, pension, or government benefit payments (e.g., Social Security), made by the account holder’s employer, payroll or benefits provider or government agency (“Direct Deposit”) via the Automated Clearing House (“ACH”) Network during a 30-day Evaluation Period (as defined below). Deposits that are not from an employer or government agency, including but not limited to check deposits, peer-to-peer transfers (e.g., transfers from PayPal, Venmo, etc.), merchant transactions (e.g., transactions from PayPal, Stripe, Square, etc.), and bank ACH funds transfers and wire transfers from external accounts, or are non-recurring in nature (e.g., IRS tax refunds), do not constitute Direct Deposit activity. There is no minimum Direct Deposit amount required to qualify for the stated interest rate. SoFi members with direct deposit are eligible for other SoFi Plus benefits.

As an alternative to direct deposit, SoFi members with Qualifying Deposits can earn 4.00% APY on savings balances (including Vaults) and 0.50% APY on checking balances. Qualifying Deposits means one or more deposits that, in the aggregate, are equal to or greater than $5,000 to an account holder’s SoFi Checking and Savings account (“Qualifying Deposits”) during a 30-day Evaluation Period (as defined below). Qualifying Deposits only include those deposits from the following eligible sources: (i) ACH transfers, (ii) inbound wire transfers, (iii) peer-to-peer transfers (i.e., external transfers from PayPal, Venmo, etc. and internal peer-to-peer transfers from a SoFi account belonging to another account holder), (iv) check deposits, (v) instant funding to your SoFi Bank Debit Card, (vi) push payments to your SoFi Bank Debit Card, and (vii) cash deposits. Qualifying Deposits do not include: (i) transfers between an account holder’s Checking account, Savings account, and/or Vaults; (ii) interest payments; (iii) bonuses issued by SoFi Bank or its affiliates; or (iv) credits, reversals, and refunds from SoFi Bank, N.A. (“SoFi Bank”) or from a merchant. SoFi members with Qualifying Deposits are not eligible for other SoFi Plus benefits.

SoFi Bank shall, in its sole discretion, assess each account holder’s Direct Deposit activity and Qualifying Deposits throughout each 30-Day Evaluation Period to determine the applicability of rates and may request additional documentation for verification of eligibility. The 30-Day Evaluation Period refers to the “Start Date” and “End Date” set forth on the APY Details page of your account, which comprises a period of 30 calendar days (the “30-Day Evaluation Period”). You can access the APY Details page at any time by logging into your SoFi account on the SoFi mobile app or SoFi website and selecting either (i) Banking > Savings > Current APY or (ii) Banking > Checking > Current APY. Upon receiving a Direct Deposit or $5,000 in Qualifying Deposits to your account, you will begin earning 4.00% APY on savings balances (including Vaults) and 0.50% on checking balances on or before the following calendar day. You will continue to earn these APYs for (i) the remainder of the current 30-Day Evaluation Period and through the end of the subsequent 30-Day Evaluation Period and (ii) any following 30-day Evaluation Periods during which SoFi Bank determines you to have Direct Deposit activity or $5,000 in Qualifying Deposits without interruption.

SoFi Bank reserves the right to grant a grace period to account holders following a change in Direct Deposit activity or Qualifying Deposits activity before adjusting rates. If SoFi Bank grants you a grace period, the dates for such grace period will be reflected on the APY Details page of your account. If SoFi Bank determines that you did not have Direct Deposit activity or $5,000 in Qualifying Deposits during the current 30-day Evaluation Period and, if applicable, the grace period, then you will begin earning the rates earned by account holders without either Direct Deposit or Qualifying Deposits until you have Direct Deposit activity or $5,000 in Qualifying Deposits in a subsequent 30-Day Evaluation Period. For the avoidance of doubt, an account holder with both Direct Deposit activity and Qualifying Deposits will earn the rates earned by account holders with Direct Deposit.

Members without either Direct Deposit activity or Qualifying Deposits, as determined by SoFi Bank, during a 30-Day Evaluation Period and, if applicable, the grace period, will earn 1.20% APY on savings balances (including Vaults) and 0.50% APY on checking balances.

Interest rates are variable and subject to change at any time. These rates are current as of 12/3/24. There is no minimum balance requirement. Additional information can be found at https://www.sofi.com/legal/banking-rate-sheet.

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This content is provided for informational and educational purposes only and should not be construed as financial advice.

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13
2024
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Tips for Investing in Tech Stocks

By | Growing Wealth, invest, Investing | No Comments

It’s almost become a trope at this point: Your friend’s aunt bought some tech stocks a long time ago, and generated massive returns over the years. Or, your cousin knows somebody who knows somebody who bought some tech stock for a few dollars per share in the 1980s, and now they’re a multimillionaire.

While these anecdotes are enticing, if you’re looking to buy a first tech stock or want to add some diversity to your portfolio, you may find the reality to be slightly different from the stories. There are many kinds of tech stocks, each with its own performance trends, pros, and cons. Here are a few things to know about investing in tech stocks.

Why Investors Are Investing in Technology

In recent decades, much of the growth in the stock market overall has been concentrated in the shares of technology companies. That’s one of the main reasons that investors may be particularly interested in investing in tech stocks or related securities.

As of July 2024, the top five most valuable companies in the S&P 500 are in the tech sector. These firms — Apple, Microsoft, Nvidia, Amazon, and Meta — have an average market capitalization, or overall stock value, more than $1 trillion.

Five Largest Companies in the S&P 500 Index
Company

 Ticker

 Market Cap*

 5-year growth*
Apple AAPL $3.375 trillion 110%
Microsoft MSFT $3.17 trillion 294%
Alphabet GOOGL $2.7 trillion 233%
Amazon AMZN $1.91 trillion 140%
Meta TSLA $1.18 trillion 211%
*As of July 30, 2024

Investors flock to technology companies, especially the previously mentioned tech giants, because they’re often considered solid businesses.

The products of technology companies — especially software companies — are relatively cheap to reproduce but can be quite expensive to buy. Apple, for example, prices iPhones ahead of their competitors, sells a lot of them, and then operates an ecosystem of apps and services that generate steady revenue. Amazon’s success is attributed to the effectiveness of its operations and low prices. For Alphabet, the sheer scope of its networks and the popularity of its services allows them to sell more ads than its competitors.

Aside from the giants that have established business models, many investors pour money into tech companies due to the promise of future earnings. Even when tech companies are not profitable or see regular cash flows, investors will still support the stocks because of the potential for future earnings. Companies like Amazon and Tesla took years before they turned steady profits.

Get up to $1,000 in stock when you fund a new Active Invest account.*

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Popular Technology Stocks to Own

The technology industry is incredibly diverse. Beyond the five companies mentioned above, there are many others, including several that comprise the S&P Technology Select Sector Index, a popular market index that tracks the tech space. Below are some of the largest companies that comprise that specific Index, outside of the five tech stocks mentioned above.

Companies in the S&P Technology Select Sector Index
Company

 Ticker

 Technology Sector

 Market Cap*

 5-year growth*
Broadcom AVGO Semiconductors $684.13 billion 570%
Salesforce CRM Software $248.34 billion 204%
Adobe ADBE Software $238.22 billion 160%
Advanced Micro Devices AMD Semiconductors $221.81 billion 610%
Cisco Systems CSCO Communications Equipment $194.13 billion -20%
*As of July 30, 2024

How Can You Invest in Tech Stocks?

At the most basic level, you can invest in tech stock by buying the individual stocks of an appealing company. That can be done in the same way as buying any other type of stock or security through a brokerage or investing platform.

Another way to invest in tech is by trading technology-focused exchange-traded funds (ETFs) or mutual funds. Tech ETFs and mutual funds allow investors to diversify their investments in a single security, which may be less risky than buying a specific company’s stock.

If you are interested in a particular tech sector — like artificial intelligence or green tech — you can invest in more targeted funds rather than broad-based technology-focused ETFs.

Different Sectors for Technological Investment

The technology industry is vast, filled with companies specializing in different areas of the market. For an investor, this means it’s possible to diversify, investing in tech stocks across various sectors.

Artificial Intelligence

Artificial intelligence (AI), which refers to ways that computers can process data and automate decision-making that humans would otherwise do, is a burgeoning tech sector. Many companies are operating in this sector, using new technologies to support fields like finance and healthcare. Artificial Intelligence, along with the related field of Machine Learning (ML), has long been one of the most exciting technology areas.

Transportation

Another bustling sector of the industry is transportation. Tech underlies all transportation, and some of the most exciting companies are building electric cars, creating the batteries and software that support the navigation and operational systems in automobiles, or using software to connect drivers and passengers.

💡 Recommended: Investing in Transportation Stocks for Beginners

Streaming

Streaming companies have completely revolutionized the entertainment industry. These companies offer direct-to-consumer content, including shows and movies, that is bundled in a monthly subscription. There are standalone streaming companies, companies that include streaming as an ever-growing part of their business, and companies that build digital and physical infrastructure to support streaming services.

Information Technology

Information technology (IT) is one of the broadest and most valuable sectors of the technology industry. It typically refers to how businesses store, transmit, and use information and data within and between networks of computers.

Semiconductor Technology

Semiconductors are arguably the foundation of all technology. Semiconductor companies make components found in phones, computers, and other electronic devices. The manufacturing process for semiconductors is incredibly precise and expensive, making the industry ruthlessly competitive.

Web 3.0

In recent years, cryptocurrency, blockchain technology, and Web 3.0 have been the focus of many investors. That’s because computer engineers and companies are now developing new technologies that will allow users to interact with the web in a more interactive, personal, and secure way. These new technologies may usher in new opportunities for investors.

💡 Recommended: Web 3.0 Guide for Beginners

Evaluating a Tech Stock Before Investing

When investing, you must carefully evaluate the stocks you’re interested in.

Technology companies, in particular, tend to have high price-to-earnings (P/E) ratios, meaning that the company’s profits may seem low compared to the price of their shares. This is often because investors are expecting rapid future growth.

Other key metrics include price-to-sales, which compares the stock price to the company’s revenue. This is something to consider in the case of a fast-growing company that doesn’t yet have substantial profits.

Another critical factor is the company’s overall revenue growth — the pace at which revenue increases year-over-year or even quarter-over-quarter.

A more detailed metric that can be useful for tech companies is “gross margins,” which is the difference between a company’s revenue or sales and the cost of generating those sales, divided by total revenue. The resulting percentage indicates whether the company can make money on the actual product it sells and how much. If the company’s other costs can go down as a percentage of total revenue, profits can grow more quickly.

💡 Recommended: The Ultimate List of Financial Ratios

Pros of Adding Tech Stocks to a Portfolio

There are many benefits to investing in tech stocks, most notably attractive returns. With artificial intelligence, blockchain, and Web 3.0 technologies on the horizon, there are increasing opportunities to invest in this sector. These are some possible benefits of adding tech stocks to a portfolio.

•   There are many blue chip tech companies. Blue chip stocks typically refer to stocks from long-established companies with good returns. Today’s blue chips include huge tech companies like Apple, Alphabet, and Amazon.

•   Some tech stocks pay dividends. There can be benefits to dividend-paying stocks, including consistent earnings, which might indicate that the company is positioned to deliver strong performance.

•   Investors can buy shares in things they use. Most people use some tech in their daily routines. You might have a smartphone, or a laptop, hop on a social network, or order groceries or clothing online. With a tech stock, investors can buy a little piece of the companies they know and like.

•   It’s easy to diversify in tech. Tech stocks aren’t a monolith. Investors can add diversity to their portfolio by purchasing different aspects of the tech sector, for example, buying stock in social media companies, smartphone glass manufacturers, hardware makers, software companies, and even green tech companies.

A great thing about the tech sector investing space is that there’s so much of it out there, and investors should be able to find something that works for their goals, ambition, and knowledge base.

💡 Recommended: How to Invest in Web 3.0 for Beginners

Cons of Investing in Technology

All stocks come with their own risks and potential downsides. Tech stocks are no different. As with any stock purchase, it’s helpful to do a good amount of research before buying a stock. Take these considerations into account before deciding to pull the trigger on a tech stock.

•   Potential losses. Though the tech sector has been an area of focus for investors as it’s grown in recent decades, investors should also be aware that there’s always the potential for sizable losses, too. Certain segments of the tech space can be volatile, and technology is always changing and falling out of favor. As such, it’s possible that tech stocks could see significant declines in value – sometimes rapidly.

•   The potential for tech backlash. Some experts think increased regulation and government scrutiny could lead to a backlash against tech stocks that could affect their prospects. They cite 2018’s passage of the European Union’s General Data Protection Regulation (GDPR) and Facebook’s hearings before Congress as evidence that even more regulation might be coming in the future. But like many other sectors of the stock market, various tech stocks react differently in the face of volatility.

•   Buying what you know can be complicated. You might have a solid grasp on some social media giants, for example, but some of the nuances of emerging semiconductor firms might be a little harder to wrap your head around. You may have to ask yourself if you want to invest in a company that you might not fully understand.

•   Stocks may be priced too high. Some tech companies, like Amazon and Google, often have shares that venture into the four figures, so for a first-time tech stock investor, those companies may feel out of reach. However, many tech companies occasionally engage in a stock split to decrease their share prices.

How Frequently Should You Invest in Tech Stocks?

The frequency you invest in tech stocks will depend on your individual investment goals and risk tolerance. Some investors may choose to trade tech stocks monthly or quarterly to take advantage of any short-term price fluctuations. Others may invest in tech stocks on a more long-term basis, holding onto their shares for several years to benefit from any potential long-term growth.

What Percentage of Your Portfolio Should Be Tech Stocks?

The percentage of a portfolio allocated to tech stocks differs for every investor. For instance, some specialists might recommend that investors allocate no more than 20-30% of their investment portfolio to tech stocks, but this percentage may be higher or lower depending on the investor’s risk tolerance, investment goals, and other factors.

Mistakes to Avoid When Investing in Tech Stocks

Many investors are drawn to tech stocks because of the potential for a significant return. But the allure of large gains may cause investors to take on too much risk or lose sight of their overall investment goals.

For example, you don’t want to invest in a tech stock just because it’s popular. It’s easy to fear you are missing out when you see a particular stock’s price skyrocket. You may hear about a tech stock lot in the financial media, and you know many people who say they own it, but that doesn’t mean it’s a good investment.

Additionally, you should avoid investing in a stock just because the company is a household name. While sometimes the stocks of well-known companies do well, there are other cases of these companies not being well run and thus not being a good investment.

The Takeaway

The tech sector is vast and getting bigger by the moment as blockchain, artificial intelligence, and other technologies push boundaries. New founders are working on startups in garages and basements, potentially developing the next new thing that could change the world. Investors looking to invest in tech stocks can find a stock or ETF out there that could meet their needs.

Ready to invest in your goals? It’s easy to get started when you open an investment account with SoFi Invest. You can invest in stocks, exchange-traded funds (ETFs), mutual funds, alternative funds, and more. SoFi doesn’t charge commissions, but other fees apply (full fee disclosure here).

For a limited time, opening and funding an Active Invest account gives you the opportunity to get up to $1,000 in the stock of your choice.

Get started trading technology stocks and ETFs with SoFi Invest® today

FAQ

Why is investing in tech stocks so popular?

Tech stocks are popular because they are some of the largest and best-performing assets in the financial markets in recent years. As a whole, the technology sector has been one of the fastest growing sectors in the economy. This means that there are a lot of new and innovative companies that are constantly coming out with new products and services. This provides investors with a lot of growth potential.

How can you start investing in tech stocks today?

You can start investing in tech stocks by trading individual stocks, invest in a tech-focused mutual fund or ETF, or invest in a more general stock market index fund that includes a mix of tech and non-tech companies.

SoFi Invest®

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