A 401(k) account can be a surprisingly powerful aid in securing a financially sound retirement, particularly if you’ve been making annual contributions, and especially if your employer has been matching those contributions. (That’s free money!).
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That’s not to say these accounts are perfect. They’re not.
Stealing from your future?
Did you know that you can cash out your 401(k) when you leave your job? Raid it early? Take out a 401(k) loan?
These are all allowed, but ill-advised, says McBride.
Consider this: if you remove $20,000 when you leave a job that hypothetically could have kept growing for another 25 years, you could lose out on about $137,000 in retirement money (assuming an 8 percent average annual growth rate).
“Adding insult to injury, because of taxes and a 10 percent early withdrawal penalty if under age 59 and a half, you get to keep less than $14,000 of the $20,000 you withdrew if you’re in the 22 percent federal tax bracket,” says McBride. “It’s better to roll over the money to an IRA, your new employer’s plan, or if you have at least $5,000 you can leave it at your former employer.”
Due to expenses and debt, including medical bills and student loans, many Americans are also tapping their retirement accounts early. In fact, a new MetLife study found that nearly 30 percent of respondents who contribute to a defined contribution benefit plan say that they have done this.
While this also is 100 percent “allowable,” McBride discourages this. “There are penalties from early withdrawals as well as the loss to potential growth from compounding interest.”
As for taking out a 401(k) loan? “You’ll be repaying that money you’d initially contributed with pre-tax dollars on an after-tax basis, so it is both a loss of tax efficiency and a permanent setback to your retirement planning. Every dollar you’re repaying is a new dollar that isn’t going toward your retirement,” says McBride.
Investment options are limited
Unlike IRA accounts, which let you invest in just about any stock and offer access to hundreds or even thousands of mutual funds, 401(k) plans offer fewer options.
In fact, many plans let you choose only from a handful of mutual funds, and some of them aren’t all that great. Worse, the funds available in your plan may be those that kick back the most revenue to the plan provider, says McBride.
“Consider choosing index funds, and if not available, lobby your employer and plan to add them,” he says.
Fees, fees, fees
Honestly, do you know what fees you pay through your 401(k)?
"The financial advice you’re getting through the plan provider is typically biased toward investments with higher fees and/or the provider’s own funds,” says McBride.
Be sure to dig into the fine print. You can find this information on your statement.
And for all things 401(k) and retirement planning, always remember to consider the source when choosing what is best for you.
“Make sure whatever advice you’re getting – whether from an independent financial advisor hired by your employer or your own personal advisor – is acting as a fiduciary at all times, putting your interests above all else,” says McBride.
Vera Gibbons is the Founder of nonpoliticalnews.com which produces “NoPo” - a free daily newsletter that covers and curates non-political news only within Consumer/Personal Finance; Health & Wellness; Fashion/Beauty; Fitness/Diet.