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A nest egg can help you save for future goals, such as buying a home or for your retirement. Building a nest egg is an important part of a financial strategy, as it can help you cover any emergency costs that might crop up and allow you to become financially secure.

A financial nest egg requires some planning and commitment. In general, the sooner you start building a nest egg, the better.

What Is a Nest Egg?

A financial nest egg is a large amount of money that an individual saves to meet financial goals. Usually, a nest egg focuses on longer-term goals such as saving for retirement, paying for a child’s college education, or buying a home.

A nest egg could also help you handle emergency costs, such as unexpected medical bills, pricey home fixes, or car repairs. There is no one specific thing a nest egg is for, as it depends on each person’s unique aims and circumstances.

Understanding How a Nest Egg Works

To successfully build a nest egg, there are a few factors to keep in mind.

•  You have to have a plan. Unlike saving for short-term goals, building a nest egg takes time and you need a strategy to make it happen. A common technique is to save a certain amount of money each month or each week.

•  You need a place to stash your savings. This may sound obvious, but in order to save money every week or month, you have to put it in a savings account of some sort, such as a high-yield savings account. If you “save” the money in your checking account, you may end up spending it instead.

•  Make it untouchable. In order for your nest egg to grow so that you can reach your savings goals by a certain age, you have to protect it. Consider it hands-off.

How Much Money Should Be in Your Nest Egg?

There is no one correct amount a nest egg should be. The amount is different for each person, depending on their needs and what they are saving for. If you’re using your nest egg for a down payment on a house, for instance, you’ll likely need less money than if you are planning to use your nest egg for retirement.

If your nest egg is for retirement, one common rule of thumb is to save 80% of your annual income. However, the exact amount is different for each person, depending on the type of lifestyle they want to have in retirement. For instance, someone who plans to travel a lot may want to save 90% or more of their annual income.

What Are Nest Eggs Used for?

Nest eggs are typically used for future financial goals, such as retirement, a child’s education, or buying a house.

A nest egg can also be used to cover emergency costs, such as expensive home repairs, medical bills, or car repairs.

5 Steps to Building a Nest Egg

1. Set a SMART Financial Goal

The SMART goal technique is a popular method for setting goals, including financial ones. The SMART method calls for goals to be (S)pecific, (M)easurable, (A)chievable, (R)elevant, and (T)ime bound.

With this approach, it’s not enough to say, “I want to learn how to build a nest egg for emergencies.” The SMART goal technique requires you to walk through each step:

•  Be Specific: For example, if you’re saving for emergencies, target an amount to save in an emergency fund. One rule of thumb is to save at least three to six months’ worth of living expenses, in case of a crisis like an illness or a job layoff.

•  Make it Measurable and Achievable: Once you decide on the amount that’s your target goal, your next task is to figure out how to reach that goal. If you want to save money from your salary to reach a total of, say, $3,000 for your emergency fund, you could put $200 a month into a high-yield savings account until you reach your goal. Be sure to create a plan that’s measurable and doable for your situation.

•  Keep it Relevant and Time-bound: The last actions in the SMART method are to keep your goal a priority, and to adhere to a set timeframe for achieving it. For example, if you commit to saving $200 per month for 15 months in order to have an emergency fund of $3,000, that means you can’t suddenly earmark that monthly $200 for something else.

2. Create a Budget

Saving money takes time and focus. Making a budget is a way to help you save the amount you need steadily over time. There are numerous budgeting methods, so find one that works for you as you build up your nest egg.

You could try the 50-30-20 plan, for instance, in which you allocate 50% of your money to musts like rent, utility payment, groceries, and so on; 30% to wants, such as eating out or going to the movies; and 20% to savings. You could also explore zero-based budgeting. Try out your selected method to ensure that you can live with it.

3. Pay Off Debt

Debt can be a major obstacle to building a nest egg, especially if it’s high-interest debt like credit card debt. If you’re struggling to pay down debt, making it a priority to repay what you owe can help save you money on interest and also reduce financial stress.

Adding debt payments into your monthly budget is one way to help keep your debt repayment plan on track. In addition, there are specific methods you can use to repay debt.

Debt Repayment Strategies

These are two popular debt repayment strategies you might want to explore — the avalanche method and the snowball method.

The avalanche method focuses on paying off the debt with the highest interest rate as fast as possible. You continue to pay the minimum monthly amount on all your other debt, but you direct any extra money you have the highest-interest debt. This method can generally save you the most money in the long run.

The other option is the snowball method, which focuses on paying off the smallest debt first while making minimum payments on all other debts. When one debt is paid off, you take the payment that went toward that debt and add it to the next-smallest one, “snowballing” as you go.

This method can be more psychologically motivating, as it’s easier and faster to eliminate smaller debts first, but it can cost more in interest over time, especially if the larger debts have higher interest rates.

Finally if you’re having trouble paying down a certain debt, like a credit card or medical bill, it might be worth calling the lender. In some cases, lenders may work with individuals to create a manageable debt repayment plan. Call the lender before the debt gets out of control.

4. Make Saving Automatic

Automating your savings simplifies the act of saving with automatic transfers of money from your paycheck directly into your savings account. It can be a steady way to build your savings over time, since you don’t even have to think about it or remember to do it.

Not only that, because the money isn’t hitting your checking account, you won’t be tempted to spend it.

Set up automatic transfers to your online bank account every week, or every month. While you’re at it, set up automatic payments for the bills you owe. Don’t assume you can make progress with good intentions alone. Technology can be your friend, so use it!

5. Start Investing in Your Nest Egg

In addition to a savings account, you might also want to explore options like putting some of your money in a money market account or certificate of deposit (CD). Both types of accounts tend to earn higher interest rates than traditional savings accounts.

CDs come with a fixed term length and a fixed maturity date, which can range from months to years. You generally need to leave the money in a CD untouched for the length of the term, or you’ll owe an early withdrawal fee. With a money market account, you can access your money at any time, though there may be some restrictions.

To help build retirement savings over time, consider participating in your employer’s 401(k). Some employers offer matching funds — if you can, contribute enough to your to get the employer match, since it is essentially free money.

The Power of Compounding Interest

When saving money to build a nest egg in certain savings vehicles such as a high-yield savings account or a money market account, the power of compound interest can work to your advantage.

Here’s how it works: Compound interest is earned on the initial principal in a savings vehicle and the interest that accrues on that principal. So, for instance, if you have $500 in a savings account and you earn $5 in interest, the $5 is added to the principal and you then earn interest on the new, bigger amount. Compound interest can help your savings grow. Use a compound interest calculator to see this in action.

Why Having a Nest Egg Is Important

A financial nest egg can help you save for retirement and/or achieve certain financial goals, such as buying a home or paying for your child’s education. By building a nest egg as early as you can, ideally starting in your 20s or 30s, and contributing to it regularly, the more time your money will potentially have to grow.

The Takeaway

Building a nest egg starts with setting financial goals and then creating a specific plan of action to reach them. Using a method like the SMART goal technique, it’s possible to build a nest egg for an emergency fund, a down payment on a house, or retirement. You can use a budgeting system to help stay on track, and automate your savings to make saving simpler.

Interested in opening an online bank account? When you sign up for a SoFi Checking and Savings account with eligible direct deposit, you’ll get a competitive annual percentage yield (APY), pay zero account fees, and enjoy an array of rewards, such as access to the Allpoint Network of 55,000+ fee-free ATMs globally. Qualifying accounts can even access their paycheck up to two days early.

FAQ

What is a financial nest egg?

A financial nest egg is a sum of money you save or invest to meet a certain financial goal. A nest egg typically focuses on future milestones, such as retirement, paying for a child’s college education, or buying a home.

How much money is a nest egg?

There is no one specific amount of money a nest egg should be. The amount is different for each person, depending on their needs and what they’re using the nest egg for. For instance, if a nest egg is for retirement, some financial professionals suggest saving at least 80% percent of your annual income.

Why is it important to have a nest egg?

A nest egg allows you to save a substantial amount of money for a financial goal, such as retirement or your child’s education, for instance. By starting to build a nest egg as early as you can, the more time your money has to grow.

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SOBNK-Q325-111

When you inherit a 401(k) retirement account, there are tax rules and other guidelines you must follow in order to make the most of your inheritance.

Inheriting a 401(k) isn’t as simple as an inheritance like cash, property, or jewelry. How you as the beneficiary must handle the account is determined by your relationship to the deceased, your age, and other factors.

Understanding the tax treatment of an inherited traditional 401(k) is especially important because these 401(k) accounts are tax-deferred vehicles. That means regardless of your status as a beneficiary you will owe taxes on the withdrawals from the account, now or later.

What Is an Inherited 401(k)?

The rules for inheriting a 401(k) account are different when you inherit the account from a spouse versus someone who wasn’t your spouse. Depending on your relationship, there are different options for what you can do with the money and how your tax situation will be affected.

A traditional 401(k) is a tax-deferred retirement account, and the beneficiary will owe taxes on any withdrawals from that account, based on their marginal tax rate.

Inheriting a 401(k) From a Spouse

A spouse has a number of options when inheriting a 401(k). These include:

•   Roll over the inherited 401(k) into your own 401(k) or into an inherited IRA: For many spouses, taking control of an inherited 401(k) by rolling over the funds is often the preferred choice. For instance, you could open an IRA and roll over the inherited 401(k) into it. A rollover gives the money more time to grow, which could be useful as part of your own retirement strategy. Also, rollovers do not incur penalties or taxes.

However, it’s worth noting that if you convert funds from a traditional 401(k) to a Roth 401(k) or a Roth IRA, you will likely owe taxes on the conversion to a Roth account.

Also, once the rollover is complete, traditional 401(k) or IRA rules apply, meaning you’ll face a 10% penalty for early withdrawals before age 59½.

And when you reach age 73, you must start taking required minimum distributions (RMDs). Because RMD rules have recently changed, owing to the SECURE Act 2.0, it may be wise to consult a financial professional to determine the strategy that’s best for you.

•   Take a lump sum distribution: Withdrawing all the money at once will not incur a 10% early withdrawal penalty as long as you’re over 59 ½, but you’ll owe income tax on the money in the year you withdraw it — and the amount you withdraw could move you into a higher tax bracket.

•   Reject or disclaim the inherited account: By doing this, you would be passing the account to the next beneficiary.

•   Leave the inherited 401(k) where it is (as long as the plan allows this option): If you don’t touch or transfer the inherited 401(k), you are required to take RMDs if you’re at least 73. If you’re not yet 73, other rules apply and you may want to consult a professional.

Inheriting a 401(k) From a Non-Spouse

The options for a non-spouse beneficiary such as a child or sibling are more limited. For example, as a non-spouse beneficiary you cannot roll over an inherited 401(k) into your own retirement account. These are the options you have:

•   “Disclaim” or basically reject the inherited account.

•   Take a lump-sum distribution. If you are 59 ½ or older, you won’t face the 10% penalty, but you will have to pay taxes on the distribution.

•   Roll over the inherited 401(k) into an inherited IRA. This allows you to take distributions based on a specific timeline, as follows:

If the account holder died in 2019 or earlier, one option you have is to take withdrawals for up to five years — as long as the account is empty after the five-year period. This is known as the five-year rule. The other option is to take distributions based on your own life expectancy beginning the end of the year following the account holder’s year of death.

If the account holder died in 2020 or later, you have 10 years to withdraw all the funds. You must start taking withdrawals starting no later than December 31 of the year after the death of the account holder. This rule is known as the 10-year rule.

Note that if you are a non-spouse beneficiary and you’re younger than 59 ½ at the time the withdrawals begin, you won’t face a 10% penalty for early withdrawals.

The exception to the 10-year rule is if you’re a minor child, chronically ill or disabled, or not more than 10 years younger than the deceased, you are considered an eligible designated beneficiary and you can take distributions throughout your life (see more about this below). In that case, you might want to use the distributions to set up a retirement account of your own, such an IRA, in a brokerage account or an online brokerage, for instance.

Tax Implications for Spouses vs. Non-Spouse Beneficiaries

In general, distributions from inherited traditional 401(k)s for both spouse and non-spouse beneficiaries are subject to income tax. That means the beneficiaries pay taxes based on their current tax rate for any withdrawals they make. This is something to keep in mind if you are considering a lump sum distribution. In that case, the taxes could push you into a higher tax bracket.

One option spouse beneficiaries have that non-spouse beneficiaries don’t, is to roll over the 401(k) into their own 401(k) or IRA. Such a rollover will not incur taxes at the time it takes place — the funds are treated as if they were originally yours. With this option, RMDs (and the taxes they entail) don’t need to be taken until you are 73.

How RMDs Impact Inherited 401(k)s

If the account holder died prior to January 1, 2020, beneficiaries can use the so-called “life expectancy method” to withdraw funds from an inherited 401(k). That means taking required minimum distributions, or RMDs, based on your own life expectancy per the IRS Single Life Life Expectancy Table (Publication 590-B).

But if the account holder died after December 31, 2019, the SECURE Act outlines different withdrawal rules for those who are defined as eligible designated beneficiaries.

Calculating RMDs for Inherited 401(k)s

Calculating RMDs is different for spouse beneficiaries and non-spouse beneficiaries. Spouse beneficiaries who roll over the 401(k) into an inherited IRA can take RMDs based on their age and life expectancy factor that’s in the IRS Single Life Expectancy Table.

For non-spouse beneficiaries, if the original 401(k) account holder died before January 1, 2020, and the account holder’s death occurred before they started taking RMDs (called the required beginning date), the beneficiary can take distributions based on their own life expectancy starting at the end of the year following the account holder’s year of death. Or they can follow the five-year rule outlined above.

However, if the account holder’s death occurred after they started taking RMDs, non-spouse beneficiaries can take distributions based on their own life expectancy or the account holder’s remaining life expectancy, whichever is longer.

The scenario changes if the account holder died in 2020 or later because of SECURE 2.0. This is when the withdrawal ranges depend on whether the non-spouse beneficiary is an eligible designated beneficiary or a designated beneficiary. An eligible designated beneficiary can take RMDs based on their own life expectancy or the account holder’s remaining life expectancy, whichever is longer — or they can use the 10-year rule mentioned above. A designated beneficiary, on the other hand, must follow the 10-year rule.

What Is an Eligible Designated Beneficiary?

To be an eligible-designated beneficiary, and be allowed the option to take RMDs based on your own life expectancy, an individual must be one of the following:

•   A surviving spouse

•   No more than 10 years younger than the original account holder at the time of their death

•   Chronically ill

•   Disabled

•   A minor child

Individuals who are not eligible-designated beneficiaries must withdraw all the funds in the account by December 31st of the 10th year following the year of the account owner’s death.`

Exceptions to the 10-Year Rule for Eligible Designated Beneficiaries

Eligible designated beneficiaries are exempt from the 10-year rule (that is, unless they choose to take it). With the exception of minor children, eligible designated beneficiaries can take distributions over their life expectancy.

Minor children must take any remaining distributions within 10 years after their 18th birthday.

Recommended: Retirement Planning Guide

How to Handle Unclaimed Financial Assets

What if someone dies, leaving a 401(k) or other assets, but without a will or other legally binding document outlining the distribution of those assets?

That money, or the assets in question, may become “unclaimed” after a designated period of time. Unclaimed assets may include money, but can also refer to bank or retirement accounts, property (such as real estate or vehicles), and physical assets such as jewelry.

Unclaimed assets are often turned over to the state where that person lived. However, it is possible for relatives to claim the assets through the appropriate channels. In most cases, it’s incumbent on the claimant to provide supporting evidence for their claim, since the deceased did not leave a will or other documentation officially bequeathing the money to that person.

Tips for Locating and Claiming Unclaimed 401(k) Accounts

Because of the SECURE 2.0 Act, it is now generally easier to track down an unclaimed 401(k). As part of the Act, the Department of Labor set up a lost and found database for workplace retirement plans. To use the database, you’ll first need a Login.gov account. You can set up an account online by supplying your legal name, date of birth, Social Security number, and the front and back of an active driver’s license. You’ll also need a cell phone for verification purposes.

Through the lost and found database for workplace retirement plans, you can search for retirement accounts associated with a person’s Social Security number. Once you find an account, the database will provide contact information for the plan administrators. You can reach out to the administrators to find out more about the account and what you might be eligible to collect.

The Takeaway

Inheriting a 401(k) can be a wonderful and sometimes unexpected financial gift. It’s also a complicated one. For anyone who inherits a 401(k) — spouse or non-spouse — it can be helpful to review the options for what to do with the account, in addition to the rules that come with each choice, as well as consider your financial situation and possibly consult with a financial professional.

In some cases, the beneficiary may have to take required distributions (withdrawals) based on their age. In other cases, those required withdrawals may be waived. But in almost all cases, withdrawals from the inherited 401(k) will be taxed at the beneficiary’s marginal tax rate.

Prepare for your retirement with an individual retirement account (IRA). It’s easy to get started when you open a traditional or Roth IRA with SoFi. Whether you prefer a hands-on self-directed IRA through SoFi Securities or an automated robo IRA with SoFi Wealth, you can build a portfolio to help support your long-term goals while gaining access to tax-advantaged savings strategies.

Easily manage your retirement savings with a SoFi IRA.

FAQ

Can an inherited 401(k) be rolled into an IRA?

Yes, an inherited 401(k) can be rolled over into an IRA. Spouse beneficiaries of a 401(k) can have it directly rolled over into an inherited IRA account in their name. Non-spouse beneficiaries can do the same. However, if the original account holder died after December 31, 2019, the non-spouse beneficiary must withdraw the entire amount in the account within 10 years.

Are there penalties for not taking RMDs from an inherited 401(k)?

There is a 25% penalty for not taking RMDs from an inherited 401(k). However, if the mistake is corrected within two years, the penalty may be reduced to 10%.

How are inherited 401(k) distributions taxed?

For both spouse and non-spouse beneficiaries, distributions from inherited 401(k)s are subject to income tax. This means the beneficiaries pay taxes based on their current tax rate for any distributions or withdrawals they make.

What happens to a 401(k) with no designated beneficiary?

A 401(k) with no designated beneficiary is automatically inherited by the account holder’s spouse upon their death. For those who are unmarried with no designated beneficiary, the 401(k) may become part of their estate and go through probate with their other possessions.

Do non-spouse beneficiaries have to withdraw inherited 401(k) funds within 10 years?

If the 401(k) account holder died in 2020 or later, non-spouse beneficiaries generally have to withdraw all the funds from the inherited 401(k) within 10 years. However, there is an exception for eligible designated beneficiaries (which includes a spouse, a minor child, a beneficiary who is chronically ill or disabled, or a beneficiary who is not more than 10 years younger than the account holder at the time of their death). These eligible designated beneficiaries are exempt from the 10-year rule and can instead take distributions over their lifetime if they choose.