A great many people wrongly use a 401(k) as their primary mechanism to fund their retirement. They are a convenient tool as contributions are taking from their pay-check, it shields a portion of their income from taxes, and quite possibly their employer is contributing.
But there is a great deal of misguided information out there to confuse you into making some wrong financial decisions concerning your 401(k). Here are 5-common mistakes people make based on misinterpretation of the rules regarding 401(k)’s.
#1 A 401(k) should always be your #1 stop for your retirement savings:
If your employer is matching your contributions, it is wise to contribute to the limit your employer contributes, i.e. to dollar amount that your employer stops contributing to and no more. Your risk tolerance should be very low, in regards to your investments, as you already may have as much as a 100% or more return on your money, due to the employer matching funds. If there is no employer match you would be better off fully funding a TRAD or ROTH IRA. An IRA always wins over a 401(k) by giving you greater options concerning investment choices and control over investment fees!
#2 The IRS doesn’t allow contributions to a 401(k) and IRA’s within the same tax year:
The IRS allows what are called “savings two-fers”, and also a “triumvirate” of sorts, i.e. contributing to a 401(k), ROTH, and TRAD IRA. My astute investment clients have been doing this for years. This can be done as long as you follow contribution and deduction limits.
#3 Participation is FREE:
Seriously, people still think this is true! But truth be known 401(k) can have some of the highest administrative and management fees in the investment arena. This is because for years these costs were not disclosed to you! You may not have any “up-front” fees but your yearly costs will exceed most all retirement investment vehicles.
#4 A 401(k) loan is better than a conventional loan:
Lost opportunity for investment growth is the siren song! A recent research report by the Journal of Financial Planning stated a standard loan at market rates is the better way to go. Origination and maintenance fees, strict terms and conditions (Example – if you leave your job you must pay back in 60-days!), and withdrawal penalties – make this myth a total bust!
#5 Never leave your money behind when you change jobs:
I tend to agree with this almost 100% Only issues are that if you file a bankruptcy, your money is better protected in a 401(k) + you can withdrawal at age 55 instead of age 59. I have clients that have over the course of me being their financial advisor have changed jobs 2 or 3 times. We immediately transfer funds into a pre-existing TRAD IRA which eliminates all the issues we have talked about.
Should you have any questions concerning your current 401(k) or IRA please give me a call.
Douglas J. Sedam
The Paseo Financial Group, Inc.
27413 Tourney Road #140
Valencia, CA 91355
Phone: 661.295.2400 #1
Toll Free: 866.549.3900
Securities and Investment Advisory Services offered through Financial West Group which is a member FINRA/SIPC. OSJ Office: 19510 Ventura Boulevard #211 Tarzana CA 91356 (818) 996-3375 The Paseo Financial Group, Inc. and Financial West Group are unaffiliated companies.